Dividends and Types of Income They Provide

Written by 
Tommy Syrmolotov
/
March 18, 2022

Answer: Samsung

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Dividends are a basic category that every investor should be aware of. Still, it needs to be thoroughly explained, especially for beginner investors. Keep reading to learn everything you need to know about dividends. You will understand what dividend income is, which companies pay dividends, where and for what purpose. Also, we explain how to calculate dividend income, how interest income differs from dividend income, what types of dividends there are, and when they may not be paid.

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What is Dividend Income? Definition

Dividend income is a type of income that shareholders of certain companies receive. Dividend income is formed from the company's profits and is paid out on a share basis. Shareholders usually have the option to use their dividend cash or reinvest them.

In fact, dividend income represents the effective interest on capital invested in stocks. Dividend income is especially important compared to other forms of investment, such as bonds (given that the latter are usually more reliable than dividends). It also serves as an additional indicator of the attractiveness of a given company to investors.

Dividend Income: Examples of the U.S. Companies Paying Dividends

Calculating stock dividend income is simple. To do this, divide the dividend per share by the current share price and multiply the result by a factor of 100. The formula for dividend yield calculation: 

dividend price stock price multiplied by 100 dividend yield in percent.

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Let’s contemplate an example of dividend yield calculation to develop a better grasp of the topic. 

Assume that the current price of dividend stocks is $100. The corporation paid a dividend of $4 per share. This gives a dividend yield of four percent. If you want to know how high the dividend yield is based on the capital originally invested, simply use the share price to calculate. For example, a share is currently worth $100, and interest dividend income is $4. However, the investor previously bought the share for $80. Then the dividend yield on the initially invested capital will be 5 percent.

Examples of companies that increase dividends

We’ve already discussed the dividend income definition, and now it's time to look at real-life examples.

Target Corp (NYSE:TGT), one of the largest U.S. retailers, owns the SuperTarget and Target branded retail chains. The company pays dividends to stockholders quarterly, with annual increases for more than 50 consecutive years. If an investor bought 1,000 shares of Target stock in 2009 and held them without reinvesting or increasing them, the dividend they would receive for each year would increase from $680 to $2,480.

McDonald's Corp (NYSE:MCD), the world-famous fast-food restaurant chain and franchise, pays quarterly dividends with increases over 42 years. If you bought 1,000 shares in 2009 without a subsequent dividend reinvestment and the addition of securities, the annual dividend would increase from $2,000 to $3,760.

Lowe's shares might be one more great dividend income example. 

This company has established itself as a manufacturer of the best home goods. If you look at the last 10 years, we’ll see that the company's dividend has grown 471% in that time!

Lowe's statements table

On July 18, 2011, the company paid $0.14 per share, and by October 19, 2021, that amount had risen to $0.8 per share.

Why Do Companies Pay Dividends, and How Does it Work?

Investors support businesses via their investments. Investing money is a way for an investor to say, “I believe that this company will grow and thrive.” Consequently, for a company, paying dividends is a way of saying thank you in return by sharing a part of the income gained from previous investments.

Who gets dividends? Those persons who currently own shares of a company. The size of their payments is directly proportional to the size of their shares.

The pros of dividends for investors:

  • obtaining additional income;
  • ability to reinvest dividends;
  • ability to receive dividends with company shares that can grow in value.

The frequency of dividend payments depends on the type of shares:

  • for common shares: within 6 months after the decision to pay dividends;
  • for preferred shares: within 6 months after the end of the reporting year.

There are restrictions on the payment of dividends. The company's income in such cases is not transferred to shareholders:

  • The owner of the shares sold them before the decision to pay dividends was made. If a shareholder sold his shares or left the company after the list of recipients, but before the dividend is paid, he retains the right to receive the dividend.
  • The company made no profit for the year or not enough profit to pay the dividend. This does not apply to preferred stock. Their holders will receive payments from other, reserve sources of the company.
  • The company is a debtor to the state. For example, its property is in a tax lien and is subject to the tax rate. The company can still pay dividends in this case, but only after approval by the supervisory authorities.
  • The company is bankrupt.
  • The amount of equity capital of the JSC is less than the amount of the authorized and reserve capital.

Interest Income vs. Dividend Income

Interest-bearing investments differ in how their owners earn profits, and it's essential for an investor to understand what interest and dividend income are. 

When an investor sells an investment for more than its original purchase price, the difference between the purchase price and the sale price is called capital gain. If you buy a stock for $1,000 and then sell it for $1,200, you get a capital gain of $200. Here's a simple income dividends definition.

However, you may also have received periodic interest payments from the company that issued the stock while you owned it. These dividend payments are called dividends, and the accounting of dividend income is very different from the accounting of capital gains.

Interest/dividend income are two stock market tools for wealth creation; investments either appreciate through capital gains or companies pay shareholders a portion of their profits in the form of dividends. The abbreviation for unrealized capital gains, meaning that the asset has not yet been sold, is “yield.”

Strictly speaking, interest dividend income is not really interest payments because the share price decreases slightly after they are paid. However, the shareholder receives this income immediately. The capital gain only occurs when you sell the investment; when the share price rises from $100 to $105, you can really only sell it with a 5 percent capital gain. If the price drops to $98 again before you sell the stock, you won't notice that 5 percent capital gain.

Interest Income

Interest income is income received by the owner of money from lending it to other economic entities. It represents compensation, paid out of income for the use of financial resources. Usually, dividend income is carried out in the form of an annual interest rate.

The interest income received by the owner of capital is determined by the interest rate, the amount of which is determined by the terms of the contract between the lender and the borrower, according to which the money is lent.

Interest income depends not only on the amount of the interest rate but also on the mechanism of interest accrual. For example, if the interest income is accrued each time, which does not increase the amount of the original deposit, we are talking about simple interest, and if the interest is capitalized, we are talking about compound interest.

If the value of the interest rate is less than zero, we usually talk about not dividend revenue but about the cost of keeping the money.

Dividend income

You have learned what dividend income means. Dividends are the return of capital to the shareholders of a portion of the company's income, which is decided by the board of directors. They can be paid in cash, shares, or other assets. Dividends are expressed in dollars per share or as a percentage of current market value — the so-called dividend yield. The money earned can be returned to shareholders in the form of received dividends or left in the company as retained earnings. In addition, the profits can be used to buy back shares on the open markets.

Dividends and buybacks do not change the fundamental value of securities. Shareholders must approve the dividend, and it can be paid as a one-time special payout or in installments over some time. Investors in mutual funds and exchange-traded funds also receive dividends.

Mutual funds pay their investors the interest earned and stock dividends income from companies. In addition, realized capital gains from investing activities are usually distributed at the end of the year (capital gains distribution). The dividend discount model (Gordon's model) uses expected future dividends in estimating the value of stocks.

Final Thoughts

Thus, dividends are a great way to create an additional source of income for all investors. But to choose the most profitable dividend stocks, you need to analyze the market, and that's not always easy. However, with the Gainy app, your task will become much easier!

FAQ

What do I need to get stock dividends?

To receive stock dividends, you need to be a security holder when the register of persons entitled to receive dividends is closed. This is usually once a year, less often twice a year.

What is interest and dividend income?

Interest income is the income paid for using financial resources, expressed as an annual interest rate. Interest income is paid to owners of financial instruments, the yield of which is determined as a percentage. Dividend income is passive income from owning shares of companies. Their size affects the quotations and decision-making by investors on the advisability of buying securities.

How are stock dividends paid?

Dividends are credited to your brokerage account, and you can withdraw them at any time. Preferred stock dividends are paid the same way as common stock dividends.

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