3 Ways to Generate Passive Income
When it comes to building wealth, you can only do much through saving.
Don’t get me wrong – saving money is important. But it’s only the start.
You want to make sure you’ve cut out all the frivolous spending. You’ll want to contribute as much as you can into a 401(k) or some other retirement account. You’ll want to make sure you’re keeping your rent to a third of your income and pay down all your high-interest debt.
But once you’ve optimized the savings side of the equation, it’s time to look elsewhere.
The key to building wealth is discovering and cultivating additional streams of passive income. Getting a second job helps in the short term but if you’re trading time for money, you’re going to burn out. You only have 24 hours in a day and you’ll need some of that to sleep and recuperate.
What is passive income? Passive income is what you can earn without actively trading your time for money. When you go to work, you’re paid for your time. You may be salaried and not paid by the hour, but you’re still being paid for your time and your contributions to the company.
These are investments that pay you even though they don’t require daily attention. It’s often said that millionaires have 7+ streams of income and that’s only possible with passive income.
What are three great ways to generate passive income?
1. Real Estate
Real estate has long been touted as the path towards wealth. While you’re never guaranteed a positive return, in real estate or in any other type of investment, having a diversified portfolio of property has often been one of the most reliable ways.
If you buy property, it’s not passive. Being a landlord can be lucrative but requires quite a bit of work, from making repairs to handling phone calls to finding tenants for your rental. You take care of a lot of these problems by working with a property management company, but even that can be expensive and risky.
If you want to become involved in real estate and be truly passive, you must invest in real estate investment trusts (REITs) or crowdfunded real estate investment properties.
A REIT is a mutual fund that invests in property. The big funds own shopping malls, commercial districts, and storage facilities. They’re required by law to have the bulk of its assets and income connected to real estate investment and they must distribute 90% of its taxable income to shareholders each year as a dividend.
Another option for passive income in real estate is to invest in crowdfunded real estate. These are platforms that help curate real estate deals and let you invest in a share of a new property. It could be in the form of a note to the developer or even include some equity in the project. Some platforms have themes, like single-family homes or single-tenant commercial properties, while others only invest with certain types of developers, such as retired military.
Whatever the case, it offers the ability to invest in real estate without having to own any property.
2. Dividend Stock Funds
One of my favorite ways to generate passive income is by investing in companies that pay dividends. When it comes to truly passive income, it doesn’t get much better than dividend stocks. You simply buy the shares and collect the dividends!
What makes this even more powerful is that dividends are taxed at a lower rate than ordinary income, sometimes much lower depending on your tax bracket. If you follow a few simple rules, you pay the same as long term capital gains rates.
If you are nearing or in retirement, buying low volatility dividend stocks can help you build a monthly dividend paycheck that rivals some pensions. If you can handle the swings of the market, it’s a great strategy.
As a younger investor, I look to invest in dividend growth stock funds. These are funds that invest in strong blue-chip companies that regularly increase their dividend payouts each year. By increasing the dividend, usually faster than inflation, I can build a portfolio of stocks that pay out a large dividend relative to my cost basis.
Much like real estate, this stream of income isn’t without risk. The stock market is volatile, and your investments can lose value. If you have a long-term outlook, for me that means greater than five years, I feel like I can weather the downturns and wait until stocks recover.
And if stocks are volatile to the upside, even better!
3. Rent Out a Spare Bedroom
How big is your place? Is it in a popular area?
And do you have a spare bedroom?
Consider renting it out on a website like AirBnB for some extra income.
Renting a room on AirBnb is super simple and it’s a great way to earn a few hundred dollars, to a few thousand dollars depending on how popular it is, a month.
Our neighbor has an in-law suite in her basement and rents it out for $100 – $120 a night. It has separate access from the patio, so they almost never have to interact with guests, which is a plus.
We live in the Washington D.C. area and the suite is almost always rented out on the weekends. All she must do is launder the sheets, pick up a little bit, and the extra income is hers.
Of the three options on this list, this one is the least passive because you’ll have to list your bedroom and attend to the guests who arrive, but it’s monetizing something extra that you already have.
Once you’ve taken care of and optimized the basics, start looking to build additional streams of income to help build wealth that you can pass down to future generations.
About the Author
Jim Wang is the founder of Wallet Hacks, a personal finance blog where he shares his strategies for getting ahead financially. Jim uses his engineering background to break down complicated personal finance topics into easy to understand pieces so you can better manage your money.
The information is provided for discussion purposes only and should not be considered as advice for your investments. The information does not represent a recommendation to buy or sell securities. Please consult an investment advisor before you invest. Investing involves risk. Your investments are subject to loss of principal and are not guaranteed. Even diversification doesn’t guarantee a profit and can still result in losses in declining markets.