Types of Dividend Reinvestment Plans

• There are three avenues for reinvesting dividends. Many companies reinvest for you if you request that they do so. Another way companies can reinvest your dividends for you is to use a transfer agent, saving the company time and effort. If the company does not offer a direct or indirect reinvestment plan, most brokers offer this service.
  
  

Compound Your Returns

• Reinvested dividends accounted for 87 percent of the Standard & Poor's 500's growth between 2000 and 2010, according to Seeking Alpha. The average dividend paid by stocks in the S&P 500 is between 3 and 4 percent per year, according to Seeking Alpha. This can add up over time. For example, assuming a 7 percent annual price gain in your stocks, if you invest $20,000, in 40 years your account would grow to $299,489. If you reinvested a 3 percent dividend, your account would grow to $905,185, or more than double what it would be if you took the cash.
  
  

Receiving Stock Dividends

• You may not need to reinvest your dividends, depending on how the company chooses to pay them. Some companies provide stock dividends instead of cash. In this case, you will receive stock shares in lieu of a cash dividend. As a result, your dividends will automatically be reinvested.
  
  

Record-Keeping

• If you choose to reinvest your dividends, keep good records each year to make filling out your tax returns easier. Dividends are taxed during the year you receive them, but capital gains on your stocks are only taxed when you sell the stock. Capital gains are determined based on the price you paid for the stock. The price you paid for the stock you bought when you had your dividends reinvested may be different each time. Thus, when you sell your stock, calculate the cost basis for each stock you purchased over the years.