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- A financial planner says passive income is easier said than made.
- Building a strong investment portfolio is the most reliable passive income stream.
- You can also try building a business or producing work that earns royalties.
Passive income is the ultimate financial dream. Unfortunately, it’s often just that: a dream, not a reality.
As a financial planner, I have to be honest with you and say passive income is a bit of a myth. If it were easy and realistic to create truly passive income, where money flows into your accounts with no effort on your part, we’d all be doing it!
That said, opportunities to create passive income do exist. There are some legitimate ideas you can pursue, but it’s important to acknowledge even these are not accessible to everyone.
To pretend otherwise is harmful. It can distract you from doing what you should focus on instead: wisely managing the income you actively earn rather than spending time and money chasing a ghost of an idea.
With these disclaimers, let’s look at three legitimate paths to building your own passive income stream.
1. Build a strong investment portfolio
The whole idea of contributing to investments during your working years is to create a portfolio of assets that eventually provides a livable income. The best online brokerages can make it easy to get started.
With a well-diversified, strategically managed portfolio, you buy assets now that will increase in value over time. In the future, you can convert those higher-valued assets back to cash without doing additional work. You can also receive income from them directly, via dividends.
This is a realistic, achievable, and accessible way for most people to build passive income. It still takes a lot of upfront time and effort to build the kind of investment portfolio that you can reliably convert into a high-enough income to sustain your lifestyle.
You must build your assets to a certain level first before your portfolio can fulfill this function for you. That is why it’s so important to have a high savings rate while you’re actively working; it makes the passive income stream possible in the future.
Another benefit to this approach to passive income is you have a lot of control over the process. The more you save and the less you spend, the faster you will build up the required level of assets to convert them into a passive income stream.
2. Start a business (or invest in one)
You can create passive income if you can build a business that operates without you. Once you start a business, you need to hire employees who deliver your service or create your product without you having to do the work to produce value. Instead, you retain ownership (and therefore part of the profit).
Your service or product business can be in any industry or field and take on whatever specialty or target market you feel best equipped to serve. That gives you a lot of freedom to create in a way that aligns with your skill set or experience.
Of course, not all businesses make it. Even fewer successful businesses grow to the point that the owner can earn truly passive income from it — meaning, scaling to a point where you no longer have to play an active role in keeping the business running and generating revenue.
Another avenue for passive income (without so much upfront work and risk) is investing in an existing business. You get an ownership stake in the company in exchange for a portion of revenues.
The benefit to this approach is that you could potentially create a passive income stream immediately. The downside is that the investment is still risky; the business could fail.
You also need to have sufficient capital upfront to make that investment in the first place.
Most people don’t have tens or even hundreds of thousands of dollars of available cash to use to buy a stake in a business, so even this needs to be part of a longer-term plan where you account for the time it takes to save enough cash to make a business investment.
3. Leverage your current work for future royalties
Selling the rights to a valuable asset can allow you to establish a passive income stream. This could range from intellectual property, like a process or a system for a business to implement, or something like a story or script that a producer could turn into a film.
Publishing books (like personal finance books), courses, or other resources people want to purchase would also allow you to turn a project you created once in the present into recurring future income in the form of royalties.
This path to passive income is one of the most narrowly available to a small group of people, though. And some would reasonably argue that these earnings aren’t passive at all, but are leveraged income since they require a lot of time, effort, and work to initially create.
But if your goal is passive income, earning royalties provides an avenue to achieving that for your future self. It’s worth considering if your skills and experience align with this model of monetization.
This article was originally published in September 2023.
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