An exchange-traded fund (ETF) includes a basket of securities and trades on an exchange. If the stocks owned by the fund pay dividends, the money is passed along to the investor. Most ETFs pay these dividends quarterly on a pro-rata basis, where payments are based on the number of shares the investor owns.
Key Takeaways
- ETFs pay dividends earned from the underlying stocks held in the ETF.
- An ETF that receives dividends must pay them to investors in cash or additional shares of the ETF.
- Dividends may be taxed at the long-term capital gains rate or the investor's ordinary income tax rate.
Allocating Dividends
If an ETF has 100 shares of a company outstanding, the investor who owns ten shares has the right to 10% of the dividends earned by the ETF. The financial institution managing the ETF will receive the distribution and pass it to investors, usually quarterly.
If five stocks in the ETF pay quarterly dividends of $1 each and the fund owns ten shares of each of the stocks, the fund earns $50 in dividends per quarter. The investor who owns 10% of the shares of the ETF earns a quarterly dividend payment of $5.
The first ETF introduced in 1993 was the SPDR S&P 500 ETF (SPY), which tracks theS&P 500 Index.
Types of Dividends
There are two types of dividends that an ETF can pay to investors: qualified dividends and non-qualified dividends. The tax consequences for the two are different. Most investors will pay a lower rate on capital gains than on ordinary income. As of 2023, the capital gains tax was 0%, 15%, or 20% depending on income. The earned income tax rates range up to 37%.
- Qualified dividends: The ETF designates if the dividends distributed are qualified. The dividends are then taxed at the capital gains rate based on an investor's modified adjusted gross income (MAGI) and the taxable income rate that ranges from 0% to 20% in 2023, as determined by the Internal Revenue Service (IRS). An investor only earns the ETF-qualified dividend if they own the shares for more than 60 days during the 121-day period that begins 60 days before the ex-dividend date.
- Non-qualified dividends: Non-qualified dividends are the remaining ETF dividends equal to the total dividends minus any dividends treated as qualified dividends. These dividends are taxed at the investor's ordinary income tax rate and are commonly paid on stocks held by the ETF for 60 days or less.
8,800
The number of ETFs available to investors globally in 2023.
How Are ETF Dividends Paid to Investors?
ETF dividends maybe paid to investors in the form of a cash distribution or a reinvestment in additionalshares of the ETF.
How Do Individuals Invest in ETFs?
ETFs can be purchased or sold on a stock exchange in the same way as individual stocks. An ETF contains a basket of securities and is commonly structured to follow an index or industry sector, such as commodities, technology, or biotechnology.
How Do Investors Determine What Dividends Are Paid by an ETF?
Investors can research the dividend yield for the ETF, which is expressed as a percentage. The yield reveals how much a company pays out individendseach year relative to its stock price. Some ETFs focus on high-dividend investments. Two ETFs that focus on dividends include the SPDR S&P Dividend ETF (SDY), which tracks the S&P High-Yield Dividend Aristocrats Index, and the Vanguard Dividend Appreciation ETF (VIG), which invests in companies that have increased dividends for at least ten consecutive years.
The Bottom Line
Exchange-traded funds are similar to stocks in that they can be bought and sold throughout the trading day. An investor who wants to reap the benefits of dividends can choose an ETF that focuses on dividend-paying stocks. Dividends can be distributed as cash or reinvested in the ETF.
Correction—Dec. 1, 2022: This article was edited to update the definitions of both qualified and unqualified dividends that may be paid to investors in an Exchange Traded Fund (ETF).
FAQs
ETF issuers collect any dividends paid by the companies whose stocks are held in the fund, and they then pay those dividends to their shareholders. They may pay the money directly to the shareholders, or reinvest it in the fund.
Do ETFs pay dividends monthly? ›
Thankfully, there are some stock ETFs that do pay dividends on a monthly basis. They're definitely in the minority, but there are enough where you can actually build a pretty diversified portfolio using just monthly pay stock ETFs. Whether stock ETFs pay monthly dividends usually comes down to the issuer.
How long do you have to hold an ETF to get dividends? ›
Types of dividends
Moreover, the investor must own the shares in the ETF paying the dividend for more than 60 days during the 121-day period that begins 60 days before the ex-dividend date. This means if you actively trade ETFs, you probably can't meet this holding requirement.
Do ETFs automatically reinvest dividends? ›
Automatic dividend reinvestment plans (DRIPs) directly from the fund sponsor aren't yet available on all ETFs although most brokerages will allow you to set up a DRIP for any ETF that pays dividends. This can be a smart idea because there's often a longer settlement time required by ETFs.
Do you pay taxes on dividends in an ETF? ›
Dividends and interest payments from ETFs are taxed similarly to income from the underlying stocks or bonds inside them. For U.S. taxpayers, this income needs to be reported on form 1099-DIV. 2 If you earn a profit by selling an ETF, they are taxed like the underlying stocks or bonds as well.
Can you live off ETF dividends? ›
It's possible to live off the income from high-dividend ETFs, but it may take some planning. You can find high-dividend ETFs by analyzing the ETF selection in your brokerage account.
Which ETF pays the highest dividend? ›
Top 100 Highest Dividend Yield ETFs
| Symbol | Name | Dividend Yield |
|---|
| CONY | YieldMax COIN Option Income Strategy ETF | 70.35% |
| NVD | GraniteShares 2x Short NVDA Daily ETF | 62.60% |
| KLIP | KraneShares China Internet and Covered Call Strategy ETF | 57.83% |
| TSLY | YieldMax TSLA Option Income Strategy ETF | 57.82% |
93 more rowsFor ETFs held more than a year, you'll owe long-term capital gains taxes at a rate up to 23.8%, once you include the 3.8% Net Investment Income Tax (NIIT) on high earners. If you hold the ETF for less than a year, you'll be taxed at the ordinary income rate.
Are dividend ETFs worth it? ›
Dividend ETFs are passively managed, meaning the fund manager follows an index and does not have to make trading decisions often. Dividend ETFs are good investment options for investors that are risk-averse and income-seeking.
Is it OK to hold ETF long-term? ›
Nearly all leveraged ETFs come with a prominent warning in their prospectus: they are not designed for long-term holding. The combination of leverage, market volatility, and an unfavorable sequence of returns can lead to disastrous outcomes.
Dividend reinvestment has some drawbacks. One downside is that investors have no control over the price at which they buy shares. If the stock gains significant value, they'd still buy shares at what could be a high price.
Is it better to take dividends or reinvest? ›
As long as a company continues to thrive and your portfolio is well balanced, reinvesting dividends will benefit you more than taking the cash will.
Do I pay tax on dividends reinvested? ›
The IRS considers any dividends you receive as taxable income, whether you reinvest them or not. When you reinvest dividends, for tax purposes you are essentially receiving the dividend and then using it to purchase more shares.
What is the downside of ETFs? ›
For instance, some ETFs may come with fees, others might stray from the value of the underlying asset, ETFs are not always optimized for taxes, and of course — like any investment — ETFs also come with risk.
How long should you hold an ETF? ›
Holding an ETF for longer than a year may get you a more favorable capital gains tax rate when you sell your investment.
How do I avoid taxes on my ETF? ›
ETFs can bypass taxable events using the in-kind redemption process, while also purging their portfolios of low-cost-basis securities to help portfolio managers avoid realizing large gains if they must sell holdings. But not all ETFs create and redeem shares in kind.
How often are dividends paid on ETFs? ›
If the stocks owned by the fund pay dividends, the money is passed along to the investor. Most ETFs pay these dividends quarterly on a pro-rata basis, where payments are based on the number of shares the investor owns.
How often does S&P 500 ETF pay dividends? ›
S&P 500 investments
The SPDR S&P 500 ETF, which trades under the ticker SPY, is the oldest and biggest ETF to track the S&P 500, with about $425 billion in assets under management. It's administered by State Street Global Advisors. It pays a dividend quarterly and had a yield of about 1.3% as of November 2021.
Does the S&P 500 pay dividends every month? ›
The S&P 500 is an index, so it does not pay dividends; however, there are mutual funds and exchange-traded funds (ETFs) that track the index, which you can invest in. If the companies in these funds pay dividends, you'll receive yours based on how many shares of the funds you hold.
Do Vanguard ETFs pay monthly dividends? ›
Key Takeaways. Vanguard is a large investment advisor offering mutual funds and ETFs, many of which pay dividends. Most of Vanguard's ETF products pay monthly or quarterly dividends. Expense ratios are the fees investors pay for investing in a fund; the lower the better.
