What Is Passive Income & Its Importance

 

What is passive income?

 

If you are wondering what is passive income, let’s break it down into simple terms. In simple words, passive income is the money that you earn without putting too much effort into it. It is the income for which you have not actively worked². A common example of passive income is rental income. If you own a property which you let out and you earn rent from the same, the rental income is called passive income. It is called passive income because you are not working for it. It is generated by owning a property and letting it out.

Other common examples of passive income are as follows –

• Earning royalties
• Dividends or interest from investment
• Leasing real estate
• Affiliate marketing, etc.

 

What is not passive income?

 

The following are not considered under the purview of passive income meaning –

• A second job
• Freelancing gigs
• Commissions, etc.

 

Importance of passive income

 

Generating a passive income is important for the following reasons –

 

1. Building wealth

 

One of the primary benefits of earning a passive income is the additional revenue that you can generate. This supplements your earnings and help in creating more savings. Your disposable income increases and you can save and invest more.

 

2. Helping in emergencies

 

A passive income can serve as a back-up plan when your active income source is hampered. For instance, in the case of a sudden job loss or a rough patch in your business, passive income can help you meet your basic lifestyle costs. This reduces financial dependency and can be a great help in emergencies.

 

3. Goal fulfilment

 

With additional savings and investments, you can create a corpus for your financial goals and achieve them without hassles. You can even fulfil your goals ahead of time and indulge in your hobbies or passions without financial worries.

 

4. Better financial stability

 

Increased income can give you better financial stability. You can have funds at your disposal which can be used as and when needed.

 

5. Reduced stress

 

With better financial stability, financial independence and sufficient resources, you can live a stress-free life.

 

Ways to earn passive income

 

Some of the ways to earn passive income are as follows³ –

 

1. Invest in real estate

 

You can always rent out or lease the property and earn an attractive income from it.

 

2. Invest

 

Invest in different types of assets like stocks, fixed deposits, life insurance plans, mutual funds, etc. The returns generated by these assets can become your passive income. For instance, shares and mutual funds can yield dividends on investments, while fixed deposits can generate interest income. Similarly, by investing in participating life insurance plans, you can earn a bonus, which will enhance your policy benefits.

 

 

Create intellectual property

 

While creating and selling the property will be a type of active work, the royalty that you earn from it would become a passive income.

 

3. Lend money

 

The interest that you earn from the loan can become a passive income.

 

Things to know about earning passive income

 

Here are some things to remember when earning passive income –

• In some cases, you might have to actively work to establish a source of passive income. For instance, creating and uploading an online video will require active work. However, if the video gets enough views, it can start generating income for you, which will become passive income.
• Saving and investment might be needed in some cases. For instance, to get rental income, you need money to buy a property which can be let out. The same is the case for investments. You need to save and invest for your investments to generate returns.
• Passive income will be taxed in your hands at your tax slab rates unless you can claim relevant tax exemptions on them subject to conditions. For instance, returns from some investments, like bonus from a life insurance policy, can be claimed as a tax-exempt income  subject to Section 10(10D) of Income-tax Act, 1961 conditions.

 

Conclusion

 

Understand what is passive income and look for ways to create a source for it. Passive income is a smart way to supplement your earnings without too much effort and can help financially. So, assess the different ways of generating passive income and choose one which suits you. Create a passive income and try to increase it to achieve financial independence.

 

Frequently Asked Questions

 

1. What is active income and passive income?

 

Active income is something that you work hard to earn while passive income can be generated without working actively for it1.

 

2. What are the risks associated with passive income streams?

 

Some of the risks associated with passive income are as follows⁴

• Initial investment or effort is needed in most cases
• The income is not fixed
• You might not earn the desired level of income

 

3. What are the tax implications of passive income?

 

Passive income is taxable in your hands unless you can claim a tax exemption on the same5 subject to conditions.

 

4. What are some common sources of passive income?

 

Some of the common sources of passive income are rental income, interest from investments, investment returns, affiliate marketing, etc.

 

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