Income determines your savings, your budget, and the timeframe for your financial goals, but you don’t have to be limited to just one sole form of income — in fact, it almost always makes sense to have multiple streams of income.
But how can a person have time for multiple sources of income? An answer for many is passive income. Let’s take a closer look at passive and active income, and some of the major differences between the two.
What is income?
While there is no single agreed-upon definition of income (specifically, what kinds of payments count as income and what don’t), income can generally be considered any amount of money or compensation provided in exchange for services or materials.
With a definition as vague as that, nearly any time money changes hands can be seen as the receipt of income by an individual.
For most people, though, income is the money you earn from your job or jobs, and your income is a representation of how much money you receive in a certain amount of time (typically a year).
But standard nine to five jobs aren’t the only way to make an income. You can create a new income stream in a variety of ways, such as selling your time, selling your work, selling materials, providing a service, or from investments.
Active income vs. passive income
There are many ways that you can break income into different categories, but perhaps the most important to understand as you build a stronger financial foundation is active versus passive income.
All income can be described as either active or passive, and knowing how to leverage the ideal balance of active and passive income in your favor is critical for maximizing your income potential.
The most important distinction between active and passive income is that active income requires some form of direct labor to produce money, while passive income describes funds that are earned without dedicated labor.
In reality, all forms of income require some amount of “work,” so you might find it easier to think about active and passive income as a spectrum rather than a black-and-white distinction.
Active income: selling your time and abilities
Active income is the most common kind of income, and for many people, the only kind of income earned.
Active income is any sort of income that requires labor. One way to think of it is that active income is generated when you sell your own labor in exchange for money, but let’s think a little bit deeper about what constitutes “labor.”
Labor can be thought of as a combination of time and ability. Workers exchange their time (for a given number of shifts a week, or from nine-to-five work weeks Monday through Friday) and their abilities (i.e. their specific skills needed for that job) in exchange for money (their hourly rate or annual salary).
The great thing about active income is that you almost always retain some sort of ability to produce an active income — it’s based on how you use your own time and skills.
How to maximize active income
If active income is a combination of your time and ability, then there are two ways to increase the income you can receive: sell more of your hours (work more shifts or dip into overtime) or do a task that requires increased ability (like specializing in a field or getting certified in a particular skill).
It really is that simple to maximize your active income, and unfortunately, those are really the only two ways to do it.
The major shortcoming of active income lies in this equation as well. You have a finite amount of time, so you can only increase that variable by so much.
Increasing the level of abilities you offer also takes a lot of time, and is not always a simple, cost-effective, or practical method.
This is where passive income can come in handy.
Passive income: selling assets
Passive income, on the other hand, is a less common but oftentimes much more lucrative way to make an income. Passive income is produced not by selling labor, but by selling assets, or really anything that has value.
In theory, passive income doesn’t require any “work,” at least not once you lay the groundwork. It can even make you money while you sleep, but each form of passive income requires some effort to build and maintain the income stream.
There are nearly endless ways you can make a passive income if you’re willing to do the groundwork to get them operating.
Passive income ideas
You don’t need to be a millionaire to build streams of passive income. You can have one side income stream or several. In fact, you may already have a passive income stream and not even know it’s considered passive income!
Here is a look at some of the most popular passive income streams out there.
1. Rental property
One of the most popular streams of passive income is owning rental property. Landlords purchase properties with a down payment and then lease the property to tenants. The tenant’s rent payments cover the cost of the mortgage payment and property taxes, and when done right, leave some leftover every month as income for the landlord.
Rental property can also provide income by simply growing in value over time. Property values generally increase over time, and as you continue paying down your mortgage, your home equity can grow, especially if you put money toward increasing property value.
2. Credit card rewards
Credit card rewards programs and cash back programs are one way you might already be benefiting from passive income. Many credit cards will offer you some amount of cash back, travel rewards miles, or rewards points for every purchase you make on the card.
One of the best ways to earn passive income through credit card rewards is with the VITAL card. It’s the credit card that pays you to share and spend responsibly.
When you have friends and family sign up for Vital Card using your referral link, you will earn toward your Vital Score. Based on your Vital Score, you’ll receive a cash back bonus every single month, forever.
Plus, Vital Card gives you 1.5% cash back on every purchase, with the potential to earn 2 to 3% cash back during bonus periods.
You can learn more about Vital Card and all of the rewards it has to offer here.
3. Start a small business
While not every business succeeds, owning a successful small business is one of the highest value streams of passive income that you can find. That said, starting a business is also one of the most taxing ways to build passive income. As any business owner can tell you, it is far from truly “passive.”
That said, if you can achieve enough success to pay other people to manage your business for you, you can take a back seat and enjoy the profits, though understanding this often takes years of hard work.
4. Invest
Investing can be a great way to protect your wealth against inflation and grow your savings over your lifetime.
As the value of companies increases over time, so too will the value of their stocks, providing you income as they increase in value when you sell. When you invest, you can also earn something called a dividend payment.
Dividend payments are portions of the profits of the company that are paid out to shareholders, typically on a quarterly basis. These dividend payments are often reflected as a percentage of the stock value, which is then deposited to a brokerage account on the dividend issue date.
#5. Classes, workshops, and e-books
An increasingly popular passive income stream is selling online classes, workshops, e-books, or online courses. Each of these is slightly different, but they are all ways to sell your expertise online without having to teach actively.
In order to get to the passive stage of this, however, you will have to do quite a bit of work to build your program. If you have a particular skill set or knowledge base that people would pay money to learn, you can turn that into passive income.
Try writing up a course plan, recording some videos, or creating a website for your course. Selling membership access to courses, programs, and workshops is another great way to turn one-time payments into recurring payments to help grow your passive income.
The bottom line
Now that we’ve covered some of the differences between passive and active income, which one is better than the other? The truth is that they both have their advantages and disadvantages. Ultimately, for most people, a combination of both types makes the most sense for being able to balance funds, time, and effort.
But again, building a stream of passive income takes time. Leveraging your time and abilities in your favor to earn a good active income can help you accelerate your passive income earning abilities. Just make sure you are using the capital you earn from your active income to help build passive streams of income. It could help you retire early and build a prosperous future.
If you want to learn more about how you can build passive income with the Vital Card, check us out here. We believe in fostering a financial community, where you are rewarded for making sound financial decisions.
Sources
Definition of Income | Cornell Law School Legal Information Institute
Active Income, “Passive Income Vs. Active Income: What an Investor Should Know” | Yieldstreet
Passive Income Ideas, “Top Passive Income Ideas,” by Emily John Birken and John Schmidt, Forbes Advisor Council
Vital Card blog posts are intended for informational purposes only and should not be considered financial or any other type of advice.