The Dividend Illusion: Why Chasing Yield Can Hurt Your Retirement
Dividend investing sounds comforting: own the stocks that “pay you” and live off the income. It feels like a paycheck.
But when you zoom out and look at how retirement funding actually works, the story changes. What pays your bills over decades isn’t dividends—it’s total return. And building an equity portfolio primarily around high dividend yields can create unnecessary risks, reduce tax flexibility, and (ironically) increase the chance you’ll need to sell shares at a bad time anyway.
Let’s walk through why.
1) Dividends don’t create wealth—they distribute it
A dividend is not “extra money” a company conjures up for shareholders. It’s a transfer of value from the company to you.
Think of it like moving money from your left pocket (your share value) to your right pocket (your checking account). Your net worth doesn’t usually rise simply because cash moved hands.
In efficient markets, the stock price typically adjusts downward by roughly the dividend amount on the ex-dividend date—because the company is now worth less by the cash it paid out. Charles Schwab explains this clearly: the price drop reflects the dividend leaving the company.
Bottom line: Dividends can be part of a good return, but they’re not a special kind of return. They’re just one component of total return.
2) Dividends reduce your tax control (and can raise your tax bill)
Even if you reinvest dividends automatically, you still received taxable income in most taxable brokerage accounts.
That matters because dividends force income onto your tax return whether you need the cash or not, reducing your ability to:
Keep taxable income within a preferred bracket
Manage ACA subsidies or Medicare premiums later in life (IRMAA)
Time capital gains strategically (e.g., realizing gains in low-income years)
Harvest losses and control exactly when you realize gains
With a total-return approach, you can often fund spending using a mix of:
Selling shares with more control over which lots you sell (high basis vs. low basis)
Realizing gains in years when your tax rate is lower
Coordinating withdrawals with Roth conversions, charitable giving, or other planning moves
A dividend-heavy portfolio makes all of that harder because the cash shows up on its own schedule.
3) “Dividend income” isn’t safer than selling shares
A common behavioral belief is: "I don’t want to sell shares in retirement; I want to live off dividends." Psychologically, spending dividends feels like eating the fruit, while selling shares feels like cutting down the tree. It is entirely normal to feel this way, but it mixes up mechanics with economics.
If you need $50,000 to spend:
Getting $50,000 as dividends reduces the company’s value by $50,000 worth of dividends (spread across shareholders).
Selling $50,000 of shares also reduces your equity exposure by $50,000.
In both cases, you’re converting part of your investment value into spendable cash. The real question is not dividends vs. selling shares—it’s:
How diversified is your portfolio?
How reliable is the total return over time?
How much flexibility do you have to manage taxes and withdrawals?
4) Dividends can (and do) get cut—often at the worst time
Dividends feel dependable… until they aren’t. Companies cut dividends when protecting cash becomes the priority—exactly the environment when retirees may be counting on them most.
Here are a few real examples:
Bank of America cut its dividend during the financial crisis (multiple reductions as conditions deteriorated).
Citigroup slashed its common dividend to $0.01 during the crisis era.
General Electric (GE) cut its dividend sharply in 2009 after decades of consistency.
General Motors (GM) suspended its dividend in 2008 to preserve liquidity.
Boeing suspended its dividend in March 2020 amid COVID-related stress.
Disney suspended its dividend during the COVID period as well.
Notice the pattern: in major downturns, dividend policies change fast. If your plan depends on dividends being “steady income,” you may be building your retirement cash flow on a foundation that cracks right when you need it most.
5) The Hidden Cost of Chasing Yield: Concentration and Stunted Growth
Dividends aren’t “bad,” and many excellent companies pay them. Dividend advocates will rightly point out that companies with a history of growing their dividends are often highly disciplined and profitable.
However, building a portfolio that heavily screens for high yield often forces you to tilt toward companies that are:
More mature, with fewer high-return reinvestment opportunities
Concentrated in specific sectors (financials, utilities, energy, consumer staples)
More exposed to regulation, commodity cycles, or interest-rate sensitivity
A company paying out a massive portion of its earnings as dividends is essentially signaling: "We don’t have enough attractive internal projects to reinvest all this cash." While that can be fine, tying your hands to only these companies means you are overweighting "yesterday's winners" and underweighting massive wealth compounders (like much of the modern tech sector) that outpace inflation through sheer price appreciation. Because the goal is funding your future spending, foregoing growth can be incredibly costly over decades.
A more practical way to think about retirement withdrawals
If the goal is funding retirement spending with the least stress and the most control, here’s a cleaner framework:
Focus on total return + a withdrawal plan
Build a diversified portfolio aligned with your risk tolerance.
Treat dividends as part of your return—not the primary objective.
Maintain a cash/bond “runway.” A cash buffer means you are never forced to sell your stocks after a big market drop—which provides the exact safety net people mistakenly think dividends provide.
Use dividends intentionally—not blindly
In retirement, dividends can reduce how much you need to sell.
In accumulation, reinvesting dividends is fine—but don’t confuse it with “free money.”
Prioritize tax flexibility
Asset location (what goes in a taxable account vs. IRA vs. Roth) matters.
Withdrawal sequencing matters.
Dividend yield is a tax characteristic, not a guarantee of safety.
Closing thought
Dividends can be a feature of a good investment. But building an equity strategy around high yields is often a marketing story disguised as a retirement plan.
In the end, your retirement is funded by:
What you earn (total return)
What you keep (after taxes and costs)
How reliably you can turn your portfolio into spending cash across good markets and bad ones.
Ready to turn your investments into a reliable Retirement Paycheck? We’ll help you design (1) a portfolio aligned to your risk and goals and (2) a withdrawal strategy that balances cash flow, taxes, and long-term sustainability. [ Book a planning call to get started.]
