Passive income is money earned from investments, real estate, or side hustles. The idea is to generate a consistent stream of income without the daily commitment of full-time employment.
A passive income strategy’s purpose is to make money while you sleep. However, despite the word “passive,” obtaining this kind of income involves an initial input of money and work in order to create long-term cash flow.
Table of Contents hide
1 What is passive income?
2 9 ways to earn passive income
3 1. Dividend stocks
4 2. Dividend index funds and exchange-traded funds
5 3. Bonds and bond index funds
6 4. High-yield savings accounts
7 5. Rental properties
8 6. Peer-to-peer lending
9 7. Being a silent partner
10 8. Blogging
11 9. Real estate investment trusts (REITs)
What is passive income?
In contrast to active income, such as money earned from full-time employment, passive income takes little or no daily effort to keep.
In general, you may earn passive income by investing in particular financial products or founding enterprises that, after an initial investment, begin to generate revenue without requiring regular labor from you.
The IRS distinguishes between taxes on active and passive income and sets strict standards on what officially counts as passive income:
- Trade or commercial activity in which you do not engage meaningfully throughout the fiscal year.
- Rental activities, even if you engage in them considerably throughout the year, unless you’re a real estate expert.
Experts classify many types of investment income as passive, but the IRS classifies it as portfolio income, which is subject to capital gains taxes.
9 ways to earn passive income
1. Dividend stocks
Investing in dividend stocks, which pay a portion of the company’s profits to investors on a regular basis, such as quarterly, is one approach to generate an income stream. The greatest ones expand their dividend over time, assisting in the growth of future revenue.
Dividend equities are less volatile than growth firms and might help you diversify your portfolio. Dividends may also be reinvested by investors (learn more about dividends and how they work).
2. Dividend index funds and exchange-traded funds
Rather of selecting and choosing specific companies to purchase, you may invest in index funds or exchange-traded funds that contain dividend stocks.
For individuals who prefer a hands-off approach, this is a kind of passive investment.
Index funds invest in a diverse range of equities in order to replicate the performance of a certain index, such as the S&P 500. A dividend index fund will invest in a variety of dividend-paying equities. Index funds may help manage portfolio risk since market fluctuations are less volatile across an index than they are across individual equities.
Dividend ETFs combine the diversification advantages of index funds with the simplicity with which equities may be traded. If you don’t already have a brokerage account, you’ll need to acquire one in order to invest in dividend stocks, index funds, ETFs, or other publicly traded assets.
3. Bonds and bond index funds
Rather than purchasing stock in a firm, bonds allow investors to lend money to enterprises, as well as federal, state, and municipal governments, and net interest income. Bonds are considered a safer investment than stocks, although they often provide a smaller return on investment. Government bonds, for example, achieved a compound annual return of 5.5 percent from 1926 to 2017. According to Morningstar analysis, a significant stock index gained 10.2 percent within the same time period.
Experts recommend putting a part of your portfolio in bonds due to their lower volatility and greater safety compared to stocks, with a bigger proportion of bonds in your portfolio as you approach retirement.
4. High-yield savings accounts
A high-yield online savings account, which might be great for increasing your emergency fund, is another option to make passive income (although at a lesser level than equities and bonds). Savings account interest is credited to your account balance.
High-yield accounts are a form of federally insured savings account that yields much greater interest rates than the national average. For example, typical high-yield accounts typically earn roughly 1.50 percent APY, compared to the national savings average of 0.07 percent APY. Small variations build-up to actual money over time, so it pays to browse around for where you deposit your funds.
5. Rental properties
Another strategy to generate passive income is to buy rental homes. Long-term rentals may be a solid source of revenue if they are situated in a robust rental market, but they also come with long-term pressures such as property maintenance, multiple mortgages, property tax payments, and other fees.
You might alternatively concentrate on short-term rentals via a company like Airbnb, which is reliant on a consistent flow of guests to your region. Start small: rent out a room in your home to fund your rental property business.
6. Peer-to-peer lending
Real estate investments are long-term bets for passive income generation. Peer-to-peer lending is a strategy to explore if you wish to possibly make income and payout your investment in less than five years.
Peer-to-peer lenders, such as Prosper and Lending Club, link investors wanting to lend money with borrowers who have been screened for creditworthiness by the platforms. It is riskier than placing money in a high-yield savings account or money market fund, but it may potentially generate more interest – up to 5% or more.
7. Being a silent partner
Another typical kind of passive income is sponsoring a private firm you feel has the potential to create future revenue. This is perhaps the original form of peer-to-peer lending. Private equity funds, which are normally only accessible to accredited investors who fulfill specific net worth or income criteria, may be an option for high-net-worth people.
Another option is to support a family member, friend, or another trustworthy partner to assist finance their company in exchange for a share of any future earnings. But beware: Investing in a single firm, no matter how big or tiny, is an inherently dangerous, long-term commitment. Never put more money into something than you can afford to lose.
8. Blogging
Starting a blog and increasing visitors is one strategy to generate passive money from home. With a bigger readership, you may make cash via display advertising, such as Google Adsense, or through sponsored content, in which firms pay you a fee to write a piece on your blog.
Affiliate marketing is another option to monetize a blog since it enables you to earn commissions when your readers buy a product or service you’ve suggested or linked to. All of these strategies need a significant upfront commitment of effort in order to get traffic, as well as ongoing pressure to maintain the blog in order to retain that audience.
9. Real estate investment trusts (REITs)
REITs may be the solution if you want to generate passive income from real estate without the hassle and expense (not to mention the large down payment) of purchasing and maintaining properties yourself.
REITs, like mutual funds, hold commercial real estate such as office buildings, retail spaces, apartments, and hotels. REITs often provide substantial yields, although their complexity and availability vary. Some are traded on stock markets, while others are not.
New investors should adhere to publicly-traded REITs, which may be purchased via an internet broker such as the ones listed below.
While you are earning all of that passive income you might be interested in our recommendation on where to spend some of it.
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