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.
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| 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.