Dividend income is a type of revenue that is made available to shareholders in some companies. It is derived from a company's profits and is paid on a per-share basis. Shareholders usually have the option to use their dividend funds or to reinvest them. It is important for potential shareholders to realize that dividend income is discretionary and is usually subject to tax.
To understand dividend income, it is necessary to understand a bit about stock ownership. When a person purchases stock in a company, she becomes a partial owner. The amount of the company that she owns is represented in shares. For example, if stock in ABC Company is $5 US Dollars (USD) per share, a $50 USD investment would give a person 10 shares.
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When a company earns profits, it may decide to distribute a portion of it as dividend income for the shareholders. When this is done, the company decides how much it will pay per share. The ABC Company, for instance, may decide to pay a $1 USD dividend. This means that the individual with 10 shares would receive $10 USD in dividend income.
Some people receive and use these funds as they would any other income. Many people, however, choose to have their dividend reinvested instead of receiving distributions. This means that they choose not to accept the dividends in the form of cash. Instead, they opt to use the funds to automatically purchase more stock. Many financial advisers suggest this option because, when a stock is successful, reinvestment allows a person to earn more profits from these funds.
All companies do not provide their shareholders with dividend income, even if they have profits. Those who do usually distribute the funds on a regular basis. Many companies choose to pay dividend income quarterly.
It is important for shareholders who have stocks that pay dividends to realize that continuing this practice is completely discretionary. A company may stop distributing dividends and change the rate at will. Anyone who is considering dividend paying stock should also note that these funds are generally subject to tax.
Some companies that pay dividends do so to make themselves attractive to investors. They provide this type of income because although they earn profits, their stock prices tend to be stable. While stability has its benefits, it also defeats the purpose of investing for many people who do so with the intention of having their money grow.