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Dividends are payments that are made to stockholders when a company profits. These funds are often attractive to individuals who would like income without having to sell their shares. Distributing such funds allows companies whose expansion has slowed to attract and retain investors. There are drawbacks, however, such as negative perceptions and heavy tax burdens.
One of the primary benefits of dividends is that they provide income. When a person owns shares, she owns a portion in a company. When that company profits, it is reasonable for the owners to share in the benefits. This can be done if a company makes dividend distributions. Otherwise, to make a profit, an individual would generally have to sell her investment, which amounts to a one-time opportunity for each share.
Another of the benefits that dividends provide for investors is more money to invest. An investor is generally free to do whatever she wants with her dividend distribution. Many people choose to reinvest the funds, which essentially allows them to acquire more shares without risking more money from other sources.
Distributing these funds can be beneficial to companies whose stock prices tend to be stable. When people invest, they are generally looking to profit in some way. If stock prices are not likely to increase, investors are not likely to be interested in investing in a company unless they pay dividends. Doing so can offer profit potential coupled with the ability to maintain stability in an investor's portfolio.
One of the cons of dividends is that investors can begin to rely on them, but they are not guaranteed. Some investors choose their stocks with the intention of using dividend payments as income. There may be periods when one or more companies in a person's portfolio does not profit. Companies also have the authority to reduce the amount of dividend distributions or to refuse to pay them altogether.
Although dividends may be attractive to some investors, others may not consider them to be such a positive indication. Many people are not interested in this type of income but instead prefer a company that is expanding in new and innovative means. Doing so can often provide the potential for substantially higher gains. By paying dividends, however, a company may be sending a message that it does not have any further growth ideas.
Another of the cons associated with dividends are the losses that result from the heavy tax burden. These funds are subject to double taxation. First, the company must pay a corporate tax to distribute the funds. Second, the investor who receives the funds must pay income tax on them.