We have to work to gain income. But what if we don’t have to? That’s the central concept of “passive income”. It’s the most praised way of achieving “financial freedom”.
Not having to work to get money is an incredible feeling. However, you need to work smart to build financial vehicles that can generate an income passively.
If you want to learn more about passive income ideas, stick around. In this article, we’ll be talking about the basics of passive and active income and their differences.
What Is Passive Income?
Passive income is money earned while doing nothing. At least not “actively”. Before we get to earn passively, we need to invest in something that can generate money for us.
A lot of work and research goes into building systems that can generate passive income. Here are some of the most popular examples.
Examples of Passive Income
We get to see examples of passive income every day. A recipe video you watch on YouTube is a good example. Somebody made that video, uploaded it, and is earning money from it.
Investors also generate passive income with real estate. Within this industry, there are a lot of passive income options to choose from such as
Fractional Real Estate Investing
Property costs a lot. For the majority, investing in real estate isn’t feasible because of the high prices. So, some invest in Fractional Real Estate instead.
In fractional real estate, investors split the cost of property among themselves. You become a partial owner of a property if you invest in fractional real estate.
How you invest depends on the group that you’re investing with. For example, you might get a deed and equity in the property while others allow buying and selling property shares.
Real Estate Investment Trusts (REITs) are companies purchasing income-generating properties. Examples are office spaces, apartments, warehouses, malls, hotels, and more.
There are two types of REITs - public and private. Publicly traded REITs can be traded like a stock. Having REIT stock earns passive income at the end of every period without having to buy physical properties to lease.
In a nutshell, you buy REIT stocks and let others do the heavy lifting while you cash out every period. It’s one of the best examples of “making money while you sleep”.
What is Active Income?
Active income is when you’re actively participating in order to earn money. The general public needs active income to pay for rent, bills, food, and electricity.
It’s one of the best ways to consistently grow capital for investments and other passive income vehicles. If you need a steady source of cash, you’re going to need active income.
Here are the most popular examples of active income.
Examples of Active Income
Active income means working for your money. It doesn’t necessarily mean being employed in a company or having a 9-5.
You can earn active income as a freelancer, business owner, and more. In general, there are two main types of active income vehicles:
If you want to get paid for the quality of your work, not time spent working, go for commission-based income. Prime examples are artists, real-estate agents, and literary agents.
Because you’re paid for the quality of your work, you get to work on your own time. But the primary concern here is stability. Without clients, you can’t get paid. That’s why most people opt to work a 9-5 salary job for consistent payouts.
Salary or Job
Working for a company, business, or agency for a fixed amount of time per day is the most basic form of active income. In most cases, you’d have to work a 9-5 from Monday through Friday.
You receive a consistent salary, gain opportunities for career development, and have social interactions with co-workers. But you’d be trading your time for money.
Passive Income vs Active Income: What Are the Key Differences?
The biggest difference between passive and active income is how involved you are. With active income, you need to work continuously to maintain a steady cash flow.
Passive income requires more upfront costs and labor. But when all the gears start turning, you can gain income without the need for much effort.
If you want to know which to focus on, consider the following:
Level of Commitment
Passive income is a great foundation for financial independence. But it does require you to commit more time and resources before you can reap the rewards.
Let’s take real estate as an example. A mismanaged real estate property could end up costing you more than the passive income it generates.
To offset this, some hire property managers to oversee their real estate. But if this is still out of your budget, then you’d need to commit more time and energy to it.
Level of Risk
Your risk appetite determines how comfortable you are with the money you use for investments. Active investments in real estate are usually high-risk. Think of wholesaling or flipping.
Both put your money on the line. If you bust here, you could end up losing a large chunk of cash. But in general, the higher the risks, the higher the rewards are.
Passive real estate income won’t yield as high an ROI as wholesaling or flipping. But it does give you a sustainable cash flow at a low risk.
Level of Control & Involvement
If you want to take an active role in your investments, you’re free to do so. The best place to do this is in real estate.
Here, even the term “passive income” is used loosely. A prime example is being a landlord. On the surface, income should be passive. You just collect rent.
But you also have to account for maintenance, tenant screening, and other forms of tenant support.
Both passive and active income are important. Both can be used to support each other in your quest for financial independence.
To recap, here are some important details you might’ve missed:
- Passive income requires more upfront costs and commitment but can generate cash flow later without needing much effort.
- Active income can be commission-based jobs or salary jobs.
- Commissions are paid based on the quality of work, and salary jobs are paid based on the number of hours worked.
- There are both active and passive income opportunities in real estate.
- Consider the level of commitment, risk, and involvement required for both passive and active investments.
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