Note: This article discusses Indonesian financial products and markets. The principles apply globally, though specific products, regulations, and tax treatments vary by country.

Why Dividends Aren’t Everything

“Find stocks with big dividends!” This advice is everywhere — YouTube, forums, Telegram groups. Dividends are indeed attractive: money comes into your account without having to sell stocks. It feels like “free money.”

But dividends aren’t free money. And excessive focus on dividends can make your portfolio suboptimal.

What Are Dividends?

Dividends are distribution of company profits to shareholders. If a company profits IDR 1 trillion and decides to distribute 50%, then IDR 500 billion is distributed to all shareholders.

Simple Example

Looks good, right? But wait.

Why Dividends Aren’t “Free Money”

1. Stock Price Drops on Ex-Date

When a company pays dividends, the stock price drops exactly by the dividend amount on the ex-dividend date. This isn’t coincidence — it’s mechanical.

Example:

• Stock price before ex-date: IDR 10,000
• Dividend: IDR 500
• Stock price after ex-date: IDR 9,500

Your total wealth stays the same: IDR 9,500 (stock) + IDR 500 (cash dividend) = IDR 10,000.

Dividends merely move money from your left pocket to your right pocket. You don’t become richer because of dividends. Read a complete explanation about why dividends are not safer than selling shares.

2. Dividends Are Taxed

In Indonesia, stock dividends are subject to 10% final PPh (Income Tax).¹ This means from a IDR 500 dividend, you only receive IDR 450.

Note: Since the Cipta Kerja Law (Job Creation Law) 2020, domestic dividends can be tax-free if reinvested in certain instruments for a minimum of 3 years. But many retail investors don’t take advantage of this.

Compare with capital gains:²

• Stock sales tax on the exchange: 0.1% of sale value (not profit)
• This tax is much lower than the 10% PPh dividend

Learn more about optimal dividend tax strategies.

3. Companies That Don’t Pay Dividends Aren’t Necessarily Bad

Many of the world’s best companies don’t pay dividends (or pay very little) because they reinvest profits for growth.

Amazon didn’t pay dividends for decades. The result? Extraordinary stock price growth. Investors got returns through capital appreciation, not dividends.

Total Return: What You Should Pay Attention To

What Is Total Return?

Total return = Capital gains + Dividends

Stock B provides higher total return even though it doesn’t pay dividends. High dividend yield doesn’t mean high total return.

Analogy

Imagine you have a tree that produces 10 fruits per year. You can:

• Option A: Pick 5 fruits (dividend), let 5 grow → tree grows slowly
• Option B: Let all 10 fruits fall and grow → tree grows fast, next year produces 15 fruits

Dividend = picking fruit. Not paying dividends = letting fruit grow the tree bigger.

Dividend Traps

High Yield Can Mean Danger

Dividend yield is calculated as: Dividend / Stock Price

If a stock price drops drastically (because the company has problems), the yield looks high — but this is a warning sign, not an opportunity.

Example:

• Stock X was IDR 10,000, dividend IDR 500 → yield 5%
• Stock X drops to IDR 2,500, dividend still IDR 500 → yield 20%

A 20% yield looks fantastic, but the price dropped 75% for fundamental reasons. Dividends will probably be cut next year. This is called a dividend trap.

Companies That Pay Big Dividends Aren’t Always Healthy

Some companies pay big dividends because:

• They have no growth prospects (so return money to investors)
• Majority shareholders need cash
• They want to attract retail investors

This doesn’t always mean the company is good.

Dividends and Passive Investors

Index Funds Already Handle Dividends

If you invest through index funds, dividends are automatically reinvested, dividends are automatically reinvested into the fund’s NAV. You don’t need to think about dividends at all — total return is already reflected in the fund price.

No Need for Special “Dividend Strategy”

Many influencers sell the idea that you need:

• A special portfolio of high-dividend stocks
• “Dividend capture” strategy
• Target “passive income from dividends”

For passive investors, all of this is unnecessary. A diversified index fund already provides optimal total return — including reinvested dividends.

When Are Dividends Relevant?

When You’re Already Retired

If you no longer have active income and live off your investment portfolio, receiving dividends can be one source of cash flow — although mathematically, selling part of your fund units gives the same result.

Psychologically

Some investors enjoy receiving “money in” without selling assets. There’s nothing wrong with this preference, as long as you don’t sacrifice diversification to chase high yields.

Mistakes to Avoid

1. Buying stocks only because of high dividend yield

High yield can mean the company has problems. Look at fundamentals, not just yield.

2. Selling stocks that don’t pay dividends

Growing companies often do better reinvesting profits. No dividends ≠ bad investment.

3. Considering dividends as “passive income” separate from investment

Dividends come out of the stock price. This isn’t additional income — it’s part of the total return you already have.

4. Building an undiversified portfolio to chase dividends

Certain sectors (banking, consumer staples) tend to pay high dividends. If you only buy these sectors, your portfolio isn’t diversified.

The “Best Dividend Stocks” Trap

Securities firms like Mirae Asset and Indo Premier often promote “15 best dividend stocks” with high dividend yields, but forget to mention that what matters is total return (capital gains + dividends), not dividends alone. Vanguard research shows that portfolios focused on high-dividend stocks often underperform in total return compared to broad market indices. Worse, focusing on dividends makes portfolios undiversified — investors end up concentrated in certain sectors (banks, consumer) and miss growth in other sectors.

The Psychology of Dividend Preference

Why are investors so attracted to dividends despite the mathematical reality that dividends don’t create wealth? Behavioral finance research identifies several psychological biases at play:

Mental Accounting Bias

Investors mentally separate “dividend income” from “investment capital” into different buckets. Spending dividend income feels acceptable, while selling shares feels like “touching the principal.” This is purely psychological — both actions reduce your net worth by the same amount.

Example: An investor receives IDR 5 million in dividends and spends it on vacation. They feel fine. If instead they received no dividends but sold IDR 5 million worth of shares to fund the same vacation, they feel anxious about “depleting their investment.”

Mathematically, the outcome is identical. But the emotional experience differs because of mental accounting.

The Illusion of Income vs. Wealth

Dividends are framed as “income,” which feels recurring and sustainable. Capital gains are framed as “wealth appreciation,” which feels temporary and at risk of evaporating.

This framing ignores that dividends can be cut (and often are during recessions), while capital gains can be realized anytime by selling a small portion of shares. Neither is inherently more stable or sustainable than the other.

Self-Control and Dividend Discipline

Some investors prefer dividends because it provides structured cash flow without requiring the discipline to sell shares systematically. This has merit for retirees who struggle with systematic withdrawal plans.

However, for accumulating investors (still building wealth), automatic dividend reinvestment is superior to receiving cash dividends that might be spent impulsively.

Dividend Reinvestment: Mechanics and Implications

How Dividend Reinvestment Works in Mutual Funds

When you own an equity index fund, dividends paid by the underlying stocks are automatically reinvested into the fund. This happens invisibly — you don’t see cash arriving in your account. The dividend simply increases the fund’s Net Asset Value (NAV).

Advantage: Tax-efficient (no immediate tax event), fully reinvested without transaction costs, no behavioral temptation to spend the dividend.

Disadvantage: Less flexible if you actually need the cash flow.

Dividend Reinvestment Plans (DRIPs) for Individual Stocks

If you own individual stocks rather than funds, some brokers offer Dividend Reinvestment Plans (DRIPs) where dividends automatically buy more shares of the same stock.

Advantage: Forces disciplined reinvestment, often at no transaction cost.

Disadvantage: Can lead to portfolio concentration (you keep accumulating more of the same stocks), less tax-efficient in Indonesia (dividend already taxed at 10% before reinvestment).

For most passive investors, index funds with automatic reinvestment are superior to manually managing individual stock DRIPs.

International Comparison: How Other Countries Tax Dividends

Understanding global dividend tax treatment highlights that Indonesia’s 10% final tax is relatively moderate:

United States

• Qualified dividends: 0-20% depending on income bracket (most investors pay 15%)
• Ordinary dividends: Taxed at regular income rates (up to 37%)
• Advantage: Long-term capital gains and qualified dividends taxed at lower rates than ordinary income

Australia

• Franking credit system: Dividends come with tax credits if the company already paid corporate tax
• Effect: Reduces or eliminates double taxation on dividends
• Advantage: Makes dividends more tax-efficient than Indonesia’s system

Singapore

• No dividend tax: Dividends received by individuals are tax-exempt (already taxed at corporate level)
• Advantage: Very tax-efficient for dividend-focused investors

United Kingdom

• Dividend allowance: First £1,000 of dividends tax-free (2023/24), then 8.75-39.35% depending on income
• Advantage: Low earners can receive substantial dividend income tax-free

Indonesia’s 10% final tax is simpler and lower than many developed markets, but lacks mechanisms like franking credits or dividend allowances that reduce double taxation in other jurisdictions.

The Compounding Trap of Dividend Taxation

Over long investment horizons, dividend taxation creates a significant drag on compound returns:

Scenario Comparison (30-year horizon)

Portfolio A: High-dividend stocks (5% yield, 3% price growth)

• Gross return: 8% annually
• After 10% dividend tax: Effective return ~7.5% annually
• IDR 100 million grows to IDR 778 million

Portfolio B: Low/no-dividend growth stocks (1% yield, 7% price growth)

• Gross return: 8% annually
• After 10% dividend tax on 1% yield: Effective return ~7.9% annually
• IDR 100 million grows to IDR 893 million

Difference: IDR 115 million (~15% more wealth) simply from tax efficiency, even though gross returns were identical.

Capital gains are only taxed when realized (0.1% on sale value), while dividends are taxed every year regardless of whether you need the cash. This makes dividend-heavy strategies less tax-efficient for long-term accumulators.

Summary

Focus on total return, not dividends alone. Broadly diversified, low-cost index funds already provide an optimal combination of capital gains and dividends.

Boring? Yes. Effective? Very.

References

1. Vanguard Research. “The Case for Low-Cost Index-Fund Investing.” 2021.
2. Arnott, R. “The Myth of Dividend Investing.” Research Affiliates, 2022.

Disclaimer: This article is for educational purposes only, not investment advice.

Related Articles

• Dividends Are Not Safer
• Dividend Taxation in Indonesia
• Equity Mutual Funds: A Beginner’s Guide
• Understanding the Difference Between Stocks and Mutual Funds
• Active vs. Passive Mutual Funds: Which is Right for You?