Many people in the stock market become confused by what exactly their dividends are, so they often put off investing in stocks that they think will yield high rewards. Sharp minds tend to invest in dividend-paying stocks because they’re a reliable income stream. The two main theories of dividends are the nature theory, also known as ‘the growth theory,’ and the payout theory, also known as ‘the replacement theory.

What Are the Two Main Theories of Dividend?

Benefits Of Nature Theory

1. It offers protection against inflation.

Inflation is a continuous rise in the overall price of goods and services, including food and fuel, salaries, rents, and taxes. This increase can be slow and steady or very rapid.
It is essential to know how much inflation there is because it may take decades for inflation to erode your purchasing power.

2. It provides a steady stream of income.

To understand the effects of inflation, you have to look back at last few years. Because wages have not kept pace with prices, many people work harder than ever without earning much more money. By choosing dividend-paying, stocks, you will put yourself in a position where you’ll be able to continue reaping the gains of dividends without risking your purchasing power.
When people worry about losing their purchasing power due to inflation, they often resort to cash investments like savings accounts and bonds. Saving money on these vehicles is not bad, but it offers only a slow income stream.

3. It provides stability to your portfolio.

It is especially true of long-term investments like Treasury bills, which are safe and stable assets that provide dividends at variable rates. As we discussed earlier, it is essential to choose stocks with no negative outlook on their prices because they may drop or lose their dividends in the future due to changes in the business environment or declines in the stock price.
In contrast to the inflationary forces pushing prices up, deflation has encouraged people to buy products and services (and supply) more than ever before.

4. It provides liquidity for retirement.

In the first few years after you start investing, you should keep up with your expenses so you don’t deplete all of your income. But once you have enough money in the bank to live comfortably and save the rest of your income, cash investments will not continue to increase in value. That is why it is essential to choose stocks ready to pay dividends while still trading at a reasonable price.

5. It provides tax deferral.

If you have a high income and a lot of capital gains, it is prudent to take advantage of the extensive exemptions from taxation that are available for dividends and long-term capital gains. These exemptions can save you many thousands of dollars in taxes each year.

What Are the Two Main Theories of Dividend?

Benefits Of Payout Theory

1. It is more tax efficient than the growth theory.

In both cases, your dividends will be taxed similarly to ordinary income at marginal rates, but there are more favorable rates depending on income levels. So by choosing dividend stocks that pay dividends at a low rate, you’ll get a lot of money in your pocket that might have been lost to taxes if they paid dividends at the same rate as other stocks.

2. It provides a stable revenue stream.

If you are looking for income, it’s better to choose stocks that pay dividends at an increased rate than to select stocks that will increase the value of your investment over time. If the value of your investment declines, you’ll be able to re-sell the stock and recover some of your investment. However, if the company goes bankrupt, you’ll get nothing back.

3. It allows for tax deferral.

If you have a high income and a lot of capital gains, it is prudent to take advantage of the extensive exemptions from taxation that are available for dividends and long-term capital gains. These exemptions can save you many thousands of dollars in taxes each year.

4. It offers liquidity for retirement.

In the first few years after you start investing, you should keep up with your expenses so you don’t deplete all of your income. But once you have enough money in the bank to live comfortably and save the rest of your income, cash investments will not continue to increase in value. That is why it is essential to choose stocks ready to pay dividends while still trading at a reasonable price.

5. It provides stability to your portfolio.

It is especially true of long-term investments like Treasury bills, which are safe and stable assets that provide dividends at variable rates. As we discussed earlier, it is essential to choose stocks with no negative outlook on their prices because they may drop or lose their dividends in the future due to changes in the business environment or declines in the stock price.

Many types of investments are available, but dividend-paying stocks may be some of the most attractive. There is a lot of money to be made in a world that’s always looking for income, and by learning how to invest correctly, you can ensure you’re on the right side.