Monday, January 15, 2018

What is Passive Income and Why Do You Want It?

When people hear or talk about something called passive income, here is what they think: everybody loves receiving income and hates doing the work that earns it. The best kind of work in the world is one that requires you to do nothing at all, yet you get paid a handsome amount of money for that. There is no deadline for doing such work; you can do anything you like and consider that a job done.

What is Passive Income and Why Do You Want It
The money in piggy-bank is the worst example of passive income - it is not even an income
By definition, passive income means a stream of revenue received on regular basis and generated from minimum amount of works on the recipient’s part to maintain the cash flow. Passive income does exist in real world; one of the most common is the revenue from property rentals. At least in the United States, dividends and interest from certificate of deposits are usually referred to as portfolio income.

The difference between passive income and portfolio income is a bit vague, so it is probably necessary to use some IRS words to explain:
  • In general, passive income refers to the stream of revenue gained from commercial ventures or for-profit entities in which the recipient is not directly involved in the business undertakings of any sort. Rental property income is still considered passive income by IRS even when the recipient materially participates or is directly involved in the rental activities; revenue from rental activities does not count as passive income if the recipient is real estate professional. In this case, passive income is the portion or revenue earned mainly for the use of the property. For example, if the amounts paid (or to be paid) by renters are also used for other types of services such as massage or foods, this particular portion is not considered passive income.

  • On the other hand, portfolio income only includes four major sources including interest, dividends, annuities, and royalties. Income from any of those sources must not be from the ordinary course of a trade. Portfolio income also includes the gain or loss from disposition of a property. Another notable source is self-charged interest; however, the revenue can be treated as passive income if the loan proceeds are used for passive activities.

Besides rental property, another form of passive income is the revenue gained from investment as long as the investor is not directly involved in the business conduct or operation supported by that particular investment. For example, you make an investment of $10 into a newspaper stand with the agreement stating that the owner of the newspaper stand will pay you back a percentage of earnings. Assuming you manage to stay away from the business operation (by not purchasing the newspapers, not sending lunch, not offering a ride home, and so on), your revenue is considered passive income.

Passive Income Taken Way Out of Context

All around the Internet people are talking about passive income as if it is the money you can earn on regular basis without doing too much work. While it can be correct to some extent, that description requires a good length of very specific explanation regarding the kind of work it refers. Having an online store and actually managing the sales does not generate passive income because you actually have to work. Having an affiliate marketing network and earning commission from every sale still does not make the revenue passive income. Running an advertising-oriented websites and making money from those also cannot qualify the revenue as passive income. In reality what you really want simply is: income. It does not matter if it is active, passive, or portfolio kind.