Revisiting 801(k) Plans

The Tom Dyson 801(k) teaser letter for Stansberry and Associates’ 12% Letter must be one of the more successful email campaigns out there — at least, if the interest of my readers is any indication. I’ve probably had more questions about this than any other email teaser I’ve ever written about.

I first wrote about this 801(k) plan idea back when the emails began flowing, in July of 2007, but I thought I would take a look again just to see if anything has changed.

The basic teaser is that these “801k” plans will make 401(k) plans obsolete, because they can generate dramatically higher returns. The 801(k) just comes from doubling the 401(k), though I suppose if they really wanted to do that we’d be talking about an 802(w) plan. Not as sexy, eh?

You can read my original post if you want to hear my full bloviation on the topic (including a few of companies they were recommending back then, some of whom are still on the list), but essentially the 801(k) is just a mysterious invented name for a DRIP or DSPP.

DRIP stands for Dividend ReInvestment Plan, DSPP for a Direct Stock Purchase Plan, and the terms are often used interchangeably. In this context, they are direct accounts offered by many individual companies that allow you to buy stock directly from the company on a set schedule (ie, $25 or $100 a month, for example), and to reinvest your dividends automatically.

DRIP/DSPP plans certainly exist and work, and you can open them with many of the best companies in the country. But on the whole, they do not offer anything dramatically different than you would get by buying the same company stock from a discount broker — many people do still recommend them, and they can be a valuable part of some investing strategies, but similar performance is certainly available by using low cost or free brokerage accounts.

And even though the term 801(k) is clearly designed to make you believe that there is some magic tax connection here, these plans have nothing to do with taxes — they are all taxable, to my knowledge, though I’m not a tax advisor, and they have nothing to do with the company match you might get in a 401(k) plan, or with the pre-tax contributions many people can make to a 401(k) or a traditional IRA. As I’m sure is obvious to many of you, there is no section 801(k) in the tax code.

DRIP plans from individual companies essentially offer a slight discount (sometimes — on the other hand, they sometimes also charge fees), dollar cost averaging, investing discipline, and automatic reinvestment of dividends. This last bit, in particular, was revolutionary in the 1960s when brokerage accounts were uncommon and commissions high.

Today, in my opinion, you can easily do much the same thing through most discount brokers with easier bookkeeping and management, though of course it all depends on your specific circumstances, preferences, account size, and goals.

Essentially, this is how the process works for both a DRIP plan and a standard brokerage-managed dividend reinvestment plan:

For the DRIP/801(k) strategy:

1. Buy one share of a company’s stock, you might have to get the actual certificate and make sure the share is listed in your name (not in “street name”, as it might be at most brokers). Some companies make this easier than others and will let you do it through their transfer agent, others make you buy the shares before you contact them.
2. Set up a DRIP/DSPP account with that company. For McDonald’s, for example, you would go to this page for the info, prospectus, and enrollment form. Nearly all companies that offer these plans provide information on their website, though some hide it better than others.
3. Set up your ongoing purchases — decide whether you want to put in $50 a month, or $100 a quarter, or whatever you want (within the individual company’s guidelines — they’re all different).
4. Start over with the next company you want to set up a DRIP with, and set up your files to enable you to track the individual accounts that you have with each of these companies.
5. Repeat until you’ve got your full portfolio set up of 2, 3, 5, 10, or 12 companies — as many as you feel like managing.
6. Watch your investment slowly grow as you dollar-cost-average in with more purchases on a regular basis, and allow all of the dividends to be reinvested in more shares.

For a more streamlined strategy:

1. Open a discount brokerage account with a broker who will offer free dividend reinvestment and low commissions. Sharebuilder is set up for exactly this purpose and is pretty good for some folks, but if you want more flexibility or Sharebuilder doesn’t work effectively with your account size, any discount broker will work, including free brokers like Zecco.com or any of the cheap ones out there. I personally use Ameritrade’s Izone service, and there are certainly plenty of others like TradeKing.com, Scottrade, and many more that might work for you. (Those links are affiliate ads, by the way, so I get a few bucks if you open an account using them, but it doesn’t mean those brokers are better or worse than any others.)
2. Buy as many shares of a particular stock as you want. Buy as many shares of another stock as you want. And another.
3. Tell your broker that you want to reinvest your dividends. Almost all discount and full-service brokers will do this for you, for free.

In my opinion, the main valuable thing that DRIP/801k plans offer that your standard discount broker doesn’t is fractional share purchasing — that’s what allows you to invest a set dollar amount every month without worrying about the exact price of the shares. For McDonald’s, for example, you might be investing $50 a month even though the price is $42 per share one month and $53 per share another month — you just get fractional shares. If you’re using a free or discount broker instead, you have to buy some number of whole shares (though that number can be 1 if you like). Most brokers do allow fractional shares for dividend reinvestment, just not for outright purchases, and you should (and hopefully would) earn dividends on those fractional shares no matter who you buy through.

If you were using a regular discount broker, you would probably want to invest at least a couple hundred dollars at a time to make sure the commissions are a small percentage of your investment — I think keeping commissions at 1-2% is a reasonable goal to shoot for, which with a $5 commission would mean investing at least $250 at a time. Most DSPP/DRIP/801-k plans have lower minimum investments than that, though some do not. Pfizer, for example, requires $500 to set up the account but only $50 for each subsequent investment.

And that doesn’t apply, of course, for a free broker like Zecco — for them, you can just buy whatever you want, in whatever amount (as long as it’s a multiple of the share price — you still can’t buy fractional shares), and if they won’t automatically reinvest your dividends you can just reinvest them yourself by buying more shares with that cash, since there’s no brokerage commission.

(Do keep in mind, however, that this “free” brokerage system has been tried before and hasn’t necessarily been proven as a business model, so there’s no guarantee that your commissions will be free forever even though Zecco is spending tons of money to build their accounts. My current Ameritrade Izone account used to be with a different Ameritrade subsidiary called Freetrade which was, as you can imagine, free … and when it merged with the new Izone brokerage they started charging $5 a trade. Still reasonable, but certainly not free.)

If you really want to “dollar cost average” in to positions, and invest $100 or $300 a month or whatever amount works for you, probably the only easy way to do this and have a diversified portfolio with fractional share positions is with Sharebuilder (or perhaps some competitors, if there are any left). This subsidiary of ING, the big European bank, is essentially a brokerage firm that is set up to handle DRIP plans, though they don’t call it that. This is the only way to easily invest $10 a month into 8 separate companies, for example, and have your dividends reinvested. I’m not necessarily recommending this, because it won’t work for all investors and, for some smaller investors, can be quite expensive after you take into account their monthly fees (their fees are here, fyi). But if you want the convenience of a DRIP plan that is flexible, and doesn’t require buying shares of individual stock and setting up personal accounts with many different companies, this kind of thing might be worth it for you. And unlike with a DRIP or DSPP company direct plan, Sharebuilder or most discount/free brokers will let you do this within a retirement account like an IRA (or even a 401-k, if you’re one of those whose company has opted for a ShareBuilder 401(k))

And finally — do note that that if you decide to open a DRIP plan or a DSPP plan through an individual company, they generally all have different account minimums, discounts or fees, and general policies.

On the plus side, if you’re the kind of person who is a reckless emotional trading addict and is trying to lock himself into being a buy-and-hold investor, these plans can be great for that because they make it quite a bit more inconvenient to sell your stock — you can’t quickly sell the stock and have it in your account 15 minutes later so you can buy the next hot Chinese IPO. For some people, that’s probably a good thing.

Tom Dyson also listed a half-dozen stocks that he was recommending for your 801-k/DRIP investing — some of them came with a few clues that make it possible for us to pick them out, some not so much, but here’s what I can tell you he appears to be recommending today:

McDonald’s (MCD) is still on the list. Thornburg Mortgage (TMA) appears, not surprisingly, to no longer be on the list. The pharmaceutical company with 40 years of annual dividend increases must be Pfizer (PFE), the only pharma company currently on the Mergent Dividend Achievers50 list. The other ones have very limited clues so I’m not going to bang my head against the wall looking for them, if others want to throw out some guesses you’re more than welcome. Generally, large cap companies with slow and steady records of share price and dividend growth are the best candidates for DSPP and DRIP investing, since these are in practice “set it and forget it” investments, and if you can do it in a tax-sheltered account there’s certainly an argument to be made for doing this with any solid REIT or BDC.

Oh, and in these recent 801(k) emails he’s been throwing in a reference to the “Monthly Income Company,” a commercial REIT that’s set up to pay monthly and increasing dividends. That company I’ve written briefly about before, and it has been noted a few times at the Stock Gumshoe Forum, but it’s Realty Income (ticker O). If you care about income and believe in the continued viability of strip malls and retail real estate over time, it’s certainly worth a look (though I confess I haven’t looked at it lately).

So, none of this is new for most of you, but the email ad is still circulating furiously and there is clearly still a lot of interest, so I thought I’d try to share some more details. Hope it helps.

And as always, happy investing and thanks for reading … and feel free to share your thoughts on dividend reinvestment, direct stock purchases, Tom Dyson, or anything else along those lines. The original post on this from July, with plenty of reader comments, is here if you’re interested.

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The author will always disclose any direct long or short equity, debt or option position in any stocks written about as of the day of publication, and will not trade in any stocks mentioned for three days (72 hours) after publication. Full disclaimer is at the bottom of the page.

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1. Thanks for taking the mystery out of the 801 plan. Your points on a portion for short term addicts was great. This is a nice way to build your CORE long term portfolio of the giants who will survive. That way there, you’ll at least have that at retirement. Good Job Shoe !!1

   [Reply]

   Posted by NBKid | February 22, 2008, 10:39 pm

2. Stock Gumshoe is a breath of fresh investing air.

   [Reply]

   Posted by Iris | February 23, 2008, 10:03 am

3. I have used both Sharebuilder and Buy and Hold for several years. For me, the idea that the accumulation process for a stock will be longer this way has forced me to be pretty disciplined in the stock selection process. And, where I have followed that disciplined approach, my returns have been very good. My goal is to invest in 100 companies, with $100 invested in each one. When I get the value to $1,000, I stop adding to that one and let the dividends compound. I am at 35 companies right now, will be at 40 by year end.

   By the way, one of the drawbacks of this type of investing is that you have to keep very good records, and when you sell, there may be a lot of transactions, some long term, some short term, so be aware of that.

   I also tried Folio FN, but I didn’t like it.

   [Reply]

   Posted by Bruce | February 23, 2008, 10:24 am

4. Sorry for the typo….should read:

   My goal is to invest in 100 companies, with $1000 invested in each one.

   [Reply]

   

   Alvin61111 Reply:
   August 22nd, 2008 at 1:51 am

   Try investing in these companies. They pay monthly dividends with high yields;

   Aberdeen Asia-Pacific Income Fund (FAX)

   ING Clarion Global Real Estate Income Fund (IGR)

   BlackRock Debt Strategies Fund (DSU)

   Zweig Total Return Fund (ZTR)

   [Reply]

   Posted by Bruce | February 23, 2008, 10:25 am

5. Thanks for the comments — Bruce, that sounds like a seriously diversified portfolio you’re working toward (and that comes from someone who is perpetually “overdiversified” with 30 or 40 significant investments at a time, which tends to make my portfolio trend probably too closely to the indexes)! What criteria do you use to select companies that make your cut of 100?

   [Reply]

   Posted by StockGumshoe | February 23, 2008, 10:36 am

6. I love reading the various strategies and comments from the readers. It appears your readership is diversied in their market approaches, and your ability to solve teasers is widely appreciated. It reminds me of the tortoise and the hare we all grew up on as children. The spectrum of ideas and comments makes for an interesting mix and I think we can all identify ourselves even though we all have the same common goal.

   [Reply]

   Posted by G IMBURG | February 23, 2008, 11:41 am

7. hello all:
   I revisited the original post. and reviewed all the companies listed. I could not find tsx:wte-un anywhere. any suggestions ?

   thanks so much for all the good work.
   Coolrap.

   [Reply]

   Posted by coolrappingdude | February 23, 2008, 11:47 am

8. The equivalent to the Toronto exchange wte-un is wtshf which you can buy over the counter in US.

   Steven

   [Reply]

   Posted by Steven | February 23, 2008, 2:13 pm

9. Rest of the List:
   NGPC
   MGU
   NLY
   WTE-UN that’s for Canada
   I would really like to do this. What do you think. Would it be feasible to do larger sums like maybe $5K

   [Reply]

   Posted by Peggy | February 23, 2008, 9:26 pm

10. Regarding DRIPS, Exxon-Mobil (XOM) offers an IRA within their DRIP. There is a $45 annual maintenance fee.

    [Reply]

    Posted by Edward | February 23, 2008, 11:16 pm

11. The criteria I have used most of the time, and which has generated the most successful results, is to select companies that have fairly good dividends. My first was Exxon, and that has done well, split a couple times. I guess I want to invest in companies which I think will be around for a log time, hence I have avoided volatile companies such as the tech sector. I have several banks, a few oils, no retail. The tech stocks I have in this are China Unicom (CHU), which has been a real star, as has America Movil (AMX). My best investment of all in this portfolio?? Aqua America (formerly Philadelphia Suburban) It is about 20, but I have my cost basis down to about 3 because they have had several splits or stock dividends. WHen I have followed my discipline, I have had no big losers. Right now, I am adding Wells Fargo. Next may be Tejon Ranch. I also have stuff like DOnaldson (DCI), and I really like Petroleum & Resources (it’s a closed end fund), and Allied Capital (ALD), and Plum Creek (PCL) They are all good dividend payers, and I have always liked thd natural resource sector, although there are times when they fall out of favor. My employment gives me an interesting view of the world resource situation, and from where I sit, I believe that there is intense global competition for basic materials, which, even if things slow a little, I do not see an end to this trend. Basic materials like sulfur have gone from huge surplus to shortage in just a few years. Anyway, just my thoughts.

    Regarding diversification, I am probably over-diversified, but these are stocks that I don’t trade in and out of, and I envision holding most of them for a long time.

    [Reply]

    Posted by bruce | February 24, 2008, 12:09 am

12. This has been so very informative. Thanks to all and especially to Gunshoe for your honesty–NOT a very great commodity in the stock market, pun intended. I am spending a year learning before investing and this has been the best site I can find for truthful information so far. I have avoided all but one newsletter purchase and that was lo-cost. If you get the idea I’m cautious about investing, yes! Judy R

    [Reply]

    Posted by Judy | February 24, 2008, 12:52 pm

13. Oops! GuMshoe, not Gunshoe, although..?

    [Reply]

    Posted by Judy | February 24, 2008, 12:55 pm

14. Judy, I’m moving along the same lines, spending lots of time learning and trying to pick out the newsletter of choice based on my investment preferences, which I’m still trying to figure out. And I agree, I cannot find a better, more honest site for stock market info, than Stock Gumshoe. Not to mention saving me the hours I used to spend cracking teasers!
    You guys have helped me so much, I’ve decided to make it a point to share some of my newsletter info (whichever one I eventually decide to subscribe to) with Stock Gumshoe. My way of saying thank you!

    [Reply]

    Posted by Bill | February 25, 2008, 9:00 am

15. Just thought everyone should see this. I wrote Better investing and this is what I got back.

    Craig:

    I received your letter about 801(k) plans. As far as I know, there is
    no
    such section of the tax code. My guess is the term is just a marketing
    gimmick.

    I believe these are really just DRIPs or direct stock purchase plans.
    After
    I read the letter, I speculate that the author simply replaced mentions
    of
    DRIPs and DSPPs with the phrase “801(k) plans.” I couldn’t find the
    addresses of any of the “real people” mentioned, either.

    Kate might have written about DRIPs in the past. If so, the author
    likely
    lifted the quote and took it out of context. But she certainly hasn’t
    written about these imaginary plans that the government doesn’t want
    you to
    know about for unknown reasons.

    Thanks for bringing it to my attention. I’ll write to ask that they
    take
    Kate’s name off of this.

    Regards,
    Adam

    –
    NAIC’s BetterInvesting
    Adam Ritt – Editor, BetterInvesting Magazine
    711 W. 13 Mile Road
    Madison Heights, MI 48071
    (248) 583-6242 Ext. 394
    adamr@betterinvesting.org
    http://www.betterinvesting.org

    CONFIDENTIALITY NOTICE: This e-mail message, including any attachments
    is
    for the sole use of the intended recipient(s) and may contain
    confidential
    and privileged information. Any unauthorized review; use, disclosure or
    distribution is prohibited. If you are not the intended recipient,
    please
    contact the sender by reply e-mail and destroy all copies of the
    original
    message

    [Reply]

    Posted by Craig Shevlin | April 9, 2008, 2:35 pm

16. How do I get into this 801k

    [Reply]

    Posted by Pat Ganley | April 27, 2008, 9:07 am

17. Pat:
    Please read both the articles by stockgumshoe:
    The links will bring you to the prospectus offered by each DRIP offering company (atleast 2 of them in the first article and third one in this article).
    Bruce’s very explanatory reply should fill the rest.
    Hope this helps.

    [Reply]

    Posted by Pankaj | May 6, 2008, 2:33 am

18. How will I apply in “Unclaimed Dividend”.

    Kindly give me email contact. I want to know the amount of sending and in what way with the contact address.

    Thanks.

    Patricia

    [Reply]

    Posted by Patricia | June 5, 2008, 3:26 pm

19. Patricia,

    Read the article here if you want to know what they are (it’s an options trading strategy, essentially):

    http://www.stockgumshoe.com/2008/06/unclaimed-dividends-2-page-form-collect-2100-jeff-clark.html

    If you’re still interested, it’s something you have to do through your broker.

    [Reply]

    Posted by StockGumshoe | June 5, 2008, 5:46 pm

20. Does anybody know anything about MITTS, (Market Index Target Term Securities), F-Series bonds,or Secured Investment Contracts? Also if your looking to invest in companies with high yielding monthly dividends try looking up these;

    FAX
    DSU
    ZTR
    IGR

    [Reply]

    Posted by Alvin61111 | August 22, 2008, 2:04 am

21. I really like your story on the 801(k) plans or Dividend Reinvestment Programs. Can you tell me anything about Canadian DRIP’s? Are they safe/ Give me some tips on Canadian DRIP’s.

    [Reply]

    Posted by Norman B. Douglas,Sr | September 3, 2008, 3:12 pm

22. Norman, Canadian DRIPs aren’t any different than US ones in terms of their basic properties, it all depends on the quality of the company and the potential growth of the business and the dividend over time. If you invest in a DRIP plan directly with a company, it can be a bit of an administrative hassle compared to buying through a discount broker, so keep in mind that many folks prefer to think of these kinds of investments as “lifetime” buy/hold/reinvest investments (to their peril in some cases, like the previously impregnable GM).

    I can’t recommend specific stocks for you, but perhaps some other readers can recommend some Canadian favorites — I suspect you might be interested primarily in the Royalty Trusts, since those are the highest yielding stocks in Canada … if so, keep in mind that some of those trusts are depleting faster than they’re reinvesting, which over time can mean that taking cash dividends would be much better than reinvesting your dividends, but the details are critical (especially reserve life, reserve replacement, and commodity price, usually natural gas or oil).

    And of course, keep in mind that the tax regime for Canadian trusts changes dramatically in a few years, which could impact dividend payments significantly for many of these firms — company strategies to deal with this tax change are still largely secret and/or in flux.

    [Reply]

    Posted by StockGumshoe | September 4, 2008, 9:25 am