Passive Income Basics

I’m quoting the following definition of “Passive Income” by wikipedia:

Passive income is a rent received on a regular basis, with little effort required to maintain it. It is advocated by some authors, especially by Robert Kiyosaki.

Some examples of passive income are:

• Repeated regular income, earned by a sales person, generated from the payment of a product or service that must be renewed on a regular basis, in order to continue receiving its benefits - also called residual income.
• Rental from property;
• Royalties from publishing a book or from licensing a patent or other form of intellectual property;
• Earnings from internet advertisement on your websites;
• Earnings from a business that does not require direct involvement from the owner or merchant;
• Dividend and interest income from owning securities, such as stocks and bonds, are usually referred to as portfolio income, which can be considered a form of passive income;
• Pensions.

Passive income is usually taxable. The American Internal Revenue Service defines passive income as “any activity… in which the taxpayer does not materially participate.” ^[1] Other financial and government institutions also recognize it as an income obtained as a result of capital growth or in relation to negative gearing.

The above lists some excellent examples of passive income.  But do you know what they all have in common?

A sales person generating passive commission from a product or service is a result of a sale - effort put out by the sales person.

Rental from property - Well, you must have some capital (most likely earned money) to invest in a property.

Royalties from published work or IP - Wells, this is pretty obvious, you have to get busy writing or inventing.

Passive advertisement earnings from your own websites - You must work and build your website, promote and get traffic first.

I’ll stop here, but you get the point - In order to build passive income, you really have to put out the work at first.

Wikipedia also mentions that there are critics who deem passive income as parasitic, and how things would get done if everybody lives off some sort of passive income.

Exactly right - not everybody can live off some sort of passive income.  Passive income is not for everybody either.  There are specific risks involved with it.  Just like anything, with reward comes risk.  Although little effort is needed to maintain a passive income source, these sources can also vanish overnight (look at the last example, Pensions, and I feel bad for those who must retire soon).

The sales person may stop collecting recurring payments if the merchant/vendor should go out of business.

The income from advertisements on your websites may stop should your website lose its traffic overnight (especially if you are dependent on the search engine traffic).

Now, I’m not saying all this to discourage you to build passive income.  I just want to be realistic.  Just like any good financial advisor would say, “Don’t put all your eggs in one basket.”  The same could be said about diversifying your passive income sources.  Don’t just build websites and collect advertisements, buy some rental properties, publish some books, buy some stocks.  Diversify!