Stashing Dividend Stocks in a Roth IRA
We have a lot of retirement saving options nowadays, but arguably none might be better than stashing dividend stocks inside a Roth IRA.
Like their 401(k) cousins, Roth IRAs allow your investment gains to grow tax-free. As long as you make no unqualified withdrawals, your profits are protected from Uncle Sam.
Better still, money made inside a Roth is not counted toward your income. This can save you a bundle in retirement. Especially given any extra income could trigger Medicare surcharges or reduce your Social Security benefits.
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In a sense, Roth IRAs are like Swiss bank accounts for regular folks. The difference, of course, is that they’re perfectly legitimate and sanctioned by the Feds. And unlike stashing cash offshore, you can get started with just a few hundred bucks.
The question is, what are the best investments to keep inside a Roth IRA?
You could do worse than dividend stocks. Sure, interest is taxed at a higher rate. But given how low yields are right now, you’re not hiding that much money from the IRS. Plus, combining the tax-free advantage of Roth IRAs and the compounding wonder of dividend stocks is a powerful wealth-building formula!
This year, the standard limit an individual can contribute to their Roth IRA is $5,500. So if I had a spare five grand or so lying around, here are three dividend stocks I would buy.
1. The Coca-Cola Co
When I try to sell investors on the benefits of dividend stocks, I like to point to The Coca-Cola Co (NYSE:KO).
In 1986, shares yielded only two percent. Okay, but hardly enough to knock your socks off. But through this period, management has increased the payout more than 21-fold. If you had bought and held shares during this time, your yield on cost would be 74% today.
What if we played out this scenario another 30 years? Assuming Coca-Cola continues to hike its dividend at a five percent annual clip, the stock will be paying out $6.05 per year by 2046. In that case, our hypothetical investor would now be earning a yield on cost of 329%.
2. Enbridge Inc.
Enbridge Inc (NYSE:ENB) isn’t just a solid dividend stock; it’s also one of the most predictable.
Why? The Canadian company has pledged to raise its dividend by 10% to 12% annually through 2024. An announcement this direct is a strong vote of confidence in the business. (Source: Enbridge Inc. and Spectra Energy Corp Combine to Create North America’s Premier Energy Infrastructure Company, Enbridge Investor Relations, September 6, 2016.)
Dividend hikes, of course, will depend on the company’s cash flows. Any distribution bumps still need to be approved by the board. Executives, though, would not have risked their credibility unless they were sure they could deliver.
3. Union Pacific Corporation
What trait does Warren Buffett look for in a business? A competitive advantage. In the same way every castle needs a moat to protect itself from attackers, every company needs a competitive advantage to protect itself from rivals.
Union Pacific Corporation (NYSE:UNP) has a moat a mile wide filled with angry sharks. The company laid most of its rail lines over a century ago back when land was cheap. Today, cities, towns, and businesses have been built around these tracks.
As result, the cost to create a competing business from scratch would be in the hundreds of billions of dollars. This competitive advantage allows Union Pacific to crank out oversized profits without rivals eating into margins. Needless to say, that means steady dividends for shareholders.