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How ETF Structures Impact Your Dividends

Jan 04, 2013
Ron DeLegge

Some ETFs tracking the same exact indexes pay dividends sooner than others. And depending on what phase of your investment plan you're in, it can make a very big difference. Let's analyze a few examples.

Where are my dividends? Itís a question that comes up whenever dividend payments donít hit our investment accounts when we expect.

With exchange-traded funds (ETFs), the timing of your dividend payments is definitely impacted by a subtle but important detail: the fundís legal structure.

ETFs generally use the following types of structures: Open end fund, unit investment trust, grantor trust, partnership, or ETN. Besides the timing of dividends paid, each kind of structure has its own unique set of financial risks, tax treatment, and consequences. Since this article is about dividends, letís focus on that.

Popular ETFs like the SPDR Dow Jones Industrial Average ETF (NYSEARCA:DIA), SPDR S&P 500 (NYSEARCA:SPY), and the SPDR S&P MidCap 400 (NYSEARCA:MDY) are organized as unit investment trusts or ďUITs.Ē Why does this matter? Because the UIT structure does not reinvest dividends in the fund, but instead holds dividends until they're paid to shareholders, typically every quarter.

The table below illustrates this. Youíll notice how thereís a 2-4 weekly delay for DIA, MDY, and SPY between the record date and the actual dividend payment date.

UITs must fully replicate the indexes they track and receiving income from loaned securities is not permitted.

If we contrast the SPY ETF with one of its direct peers, the iShares Core S&P 500 ETF (NYSEARCA:IVV) youíll instantly notice how the timing of dividend payments is different. 

IVVís final dividend payment of 0.92 cent per share in 2012 was paid on 12/26 to shareholders of record on 12/21. Why so much faster than SPY? Itís because dividends in open end funds like IVV are immediately paid to shareholders, whereas SPYís unit investment structure holds onto dividends thereby creating a dividend drag.  

What's the bottom line?

For investors who are still in the accumulation phase of their investment plan, none of this might matter. But to income dependent retirees who are counting on timely dividend payments to sustain their lifestyle, the timliness of dividend payments does make a difference. And for that reason, it might make better sense from a dividend perspective for this latter group to stick with ETFs that follow an open-end structure.  This is especially true if you donít want any delays in the timing of your dividend payments.

Check out ETFguide's Income Mix Portfolio, which generated $10,422 in annual income in 2012. The portfolio is designed to generate high monthly income using covered call options. The Jan.2013 trade garnered $654 in monthly income.

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