Dividend reinvestment plans are also popularly known as DRP or DRIP.
Instead of receiving dividends in the form of cash, the company applies this value to purchasing additional shares with nominal commissions.
In some cases, there are no additional commission charges.
However, the investor has to still pay the taxes on the income earned through the dividends even on reinvesting.
In case you come across companies offering these plans to the shareholders, it is worth investigating whether you want investing some part of your funds in the shares.
These plans are suitable for those share owners who are looking at long-term investments.
To gather more information about the terms and conditions, you need to go through the plan prospectus in detail before purchasing the shares.
In most cases, you can opt to reinvest only a part of the dividend rather than the whole.
This is called partial investment where you can choose to receive a part of the payment as cash while reinvesting the rest in the plan.
The cost of investing in DRIPs varies with each company and comes typically in 2 forms to choose from - prorated brokerage commissions and service charges.
If the investor reinvests funds through DRIPs, he would enjoy any appreciation value of the stocks during the time he owns the shares.
However, if the stock value declines, his dividend earnings also decline as well.
Investing in DRIPs carries the disadvantage of keeping track of cost basis for small stock purchases and maintain records in digital or paper form to accurately calculate the capital gains tax in case of selling shares.