What Is Passive Income?

What Is Passive Income?

Passive income is money you make without active involvement. Unlike a job or contract work, passive income isn't based on how much work you do. Instead, you might be paid in interest, shares of profit, rent or royalties.

Having passive income can be a great way to bring in supplemental income, whether you use it to make a few extra dollars or invest significant time and money to build a major income stream. Independent contractors with sporadic income, stay-at-home parents, full-time students, retirees and anyone who's working at capacity and can still use more money may all find passive income valuable.

How Does Passive Income Work?

Passive income often involves an investment of money, time, talent or effort at the outset, with the goal of creating income that's self-generating. For example, if you inherited $250,000, you might use it to create an investment portfolio that pays dividends. Or, you might use the money to purchase a vacation condo you can rent out when you aren't using it.

This type of income can also come from book (or e-book) sales, royalties on stock photography, licensing fees on a device you've invented or sales of an app you've developed. Intellectual property doesn't always require a capital investment; it may involve an investment of time and talent.

Common Passive Income Streams

Though there are lots of potential sources of passive income, many fall into one of these four categories:

• Investments
• Bank interest
• Rental income
• Intellectual property (IP)

How to Create Passive Income

To create passive income, start by exploring your investable resources and marketable skills or assets. Your list of possibilities will come from your own unique circumstances, but here are a few ideas to get you started.

Create Passive Income From Investments

If you have money to invest, consider investments that have the potential to deliver income over time:

• Build an investment fund. Learn about basic investment strategies or find a good financial advisor to guide you. Stocks that pay dividends, bonds and bond funds, and money market funds are often good sources of passive income. Starting small? Set aside money every month to build your nest egg.
• Maximize your interest earnings. Keeping your cash in high-yield accounts like certificates of deposit (CDs) or high-yield savings can multiply the interest you earn versus a traditional savings account.
• Consider an annuity. Although annuities are typically used for retirement savings, they can be used to convert savings into guaranteed payments, sometimes for life. Annuity contracts are complicated, so consider working with a financial advisor if you're interested in learning more.
• Be a "silent" investor in a business. Being an entrepreneur is anything but passive, but investing in a friend's venture as a silent partner lets you participate in a growing business without contributing much sweat equity. Just make sure you're not dependent on this income for your livelihood, as these ventures typically carry significant risk.

Create Passive Income Online

Online platforms make it possible to reach a wide audience with content, affiliate recommendations and goods for sale. Three ways to make money online:

• Create content. Do you have knowledge to share in an e-book on Amazon or a video course for a platform like Coursera? Sell or license your idea for ongoing profits. Or create your own channel on a platform like YouTube and monetize it with ads and affiliate links.
• Try affiliate marketing. If you've cultivated an audience on social media—or elsewhere—you can use affiliate links to market other companies' goods and services. You'll receive a commission for every completed purchase that comes in through your link, sometimes even if the items purchased aren't the ones you originally promoted.
• Declutter and sell items online. Depending on what lurks in your closets, you may be able to generate a bit of spending money—or funds to invest.

Learn more: Do I Need to Report Online Marketplace Sales on My Taxes?

Create Passive Rental Income

You can make money renting out property or any range of useful items, including your car, RV, boat, backyard or pool, or party furniture. Here are two ideas to consider:

• Buy a rental property. Although this option requires real capital, you stand to gain in two ways: by generating monthly income and building equity in your property. If you buy a home in your favorite vacation destination, you'll have a built-in excuse to visit whenever your place isn't rented out on Airbnb or Vrbo.
• Rent out your garage, parking space or spare vehicle. If you don't have a home to rent—or even a room—you can still rent out your car on a platform like Turo or rent your garage on sites like Neighbor.com.

Learn more: Is Real Estate a Safe Investment?

Other Passive Income Ideas

Additional passive income opportunities abound. Here are a few that might inspire you:

• Develop an app. Use your coding skills to create an app or game, then monetize it with advertising, in-app purchases, subscriptions or app sales. If your coding skills aren't top notch, check out vibe coding, which lets you use AI coding assistants to write code.
• License your invention. If your invention has a market, you may be able to license it to an established company and earn a percentage of sales in perpetuity—without the expense and investment required to manufacture and market it yourself.
• Leverage cash back credit cards. Here, you'll have to spend money to make money. But if you have cash back credit cards and enough discipline to pay off your balance every month, you can charge your everyday expenses on your cash back card and collect the rewards dollars as passive income without paying high interest on a balance.

Passive Income Tips

Brainstorming is a great place to start if you're interested in developing passive income. Once you have a few ideas to work with, follow these tips to set yourself up for success.

• Invest wisely. Many income opportunities come with some form of risk. Investments may tank, businesses can flop, renters can damage your property—you get the idea. Be cautious and well-informed. The more you know, the better prepared you'll be to make your venture a success.
• Don't limit yourself. Consider developing more than one income stream. You'll diversify your risk and may increase your odds of hitting pay dirt.
• Leverage the skills you have. Developing a blockbuster app is a brilliant way to earn passive income—unless your tech skills belong in the Jurassic era, in which case maybe writing a cookbook or researching annuities might be a better fit. Lean into the skills and talents you already have, or make an investment in learning.
• Plan ahead for taxes. Passive income is taxable, often as regular income, capital gains or self-employment income. Since there are no automatic payroll deductions associated with passive income, you'll want to know in advance how much of your earnings to set aside for taxes and what documentation you will need at filing time.
• Be realistic about time commitments. Passive income isn't always hands-off, especially when you're trying to launch something new. Where possible, make room for help: A trusted investment advisor or property manager can take some of the burden off of you, and may help you avoid costly mistakes.

Frequently Asked Questions

The Bottom Line

Developing passive income can be a smart strategy when you want to boost your cash intake and diversify income sources without taking on additional jobs. Though it usually takes an investment of time or money (or both) to establish, passive income can help you generate more income and income stability over the long haul.

If you're curious, take the time to learn more about any aspect of creating passive income, from investing to IP. Find out how to launch your own podcast, build a balanced investment portfolio, manage investment properties or develop a video game: What you learn may pay dividends.