There is a certain allure to the idea of “passive income.” After all, who wouldn’t want a continuous stream of income without having to trade your time or effort for it? But true passive income is quite elusive. True passive income can be defined, and is defined by the Internal Revenue Service, as “cash flow generated by activities in which the tax payer does not materially participate.” But outside of portfolio income, cash flow generated solely by appreciation of an asset like a stock (and liquidation of the earnings), there are few examples of true passive income.
Even Wikipedia gets it wrong.
Real estate: the classic example is false. Rent on a habitable property is generally called “passive income,” but it’s not. If you want to have tenants and consistently earn income from the property, it must be maintained. At the simplest level, as a landlord, you must interview prospective tenants, arrange background checks, respond to maintenance issues, keep the property attractive and in working condition, process rent payments, draw lease agreements, and maintain connections with plumbers, electricians, painters, and real estate agents (or do that work yourself). Even if you outsource management to an outside firm, you must develop the contract and oversee the management.
The more work you’re doing, and being a landlord is a lot of work, the less passive your income is. Outsourcing more of the work results in less income overall.
You won’t hear about this in the motivational books and seminars, but the only way to ensure high cash flow from real estate is by owning and renting out a lot of properties, and outsourcing the management of all of them. Incredibly high volume would hopefully make up for the thin margins due to outsourcing the management. But building this real estate empire takes the kind of time and effort that those with “passive income” written on their forehead with indelible ink may not understand or accept.
The allure of AdSense. Time and time again I hear from people who are excited and motivated to start a blog with the intent of throwing up some advertising to earn passive income, expecting almost immediate returns. Unless you plan on scraping other websites and stealing their content — and if you do, I hope those who provide the income will discover this tactic and stop providing the income to you — this concept is miles away from the idea of “passive income.” While there are always exceptions, for the most part you can’t just throw up a website, add advertising, and expect passive income to roll in.
If you want to really earn money online, you have to work. You must create lots of content, relevant content, and you must continue doing so. This is highly active income, not passive.
Like the real estate empire, you could simply register hundreds of domain names — there are programs that will do this for you, for a fee — and throw up one page on each full of advertisements. With incredible volume, you’ll make more from your thin profit margins. But what benefit does an empire of hundreds of websites devoid of content provide to the internet at large? It just creates more junk websites that are nuisances to anyone who is attempting to properly perform research on the internet.
This seems like a strange message coming from me. I’m earning a multiple of my day job’s salary by working with the web in my “spare time.” But this work is so far from what anyone could consider “passive income” that I’m almost insulted when I hear that. My strongest efforts wax and wane with the moon, and so does the resulting income. Consumerism Commentary won’t “run itself” and continue generating income for long.
In general, I have an option: either be a positive force, adding to the wealth of information online, even if the information is more interesting to me than to anyone else, or don’t do it at all.
When I read about the truth about earning money from real estate, like in The Complete Real-Estate Investing Guidebook by David Crook, rather than ambiguous, motivational bull (I won’t mention any specific authors, but you know who you are), I see that real estate management is not truly passive income, and success won’t come for most people who try, particularly those after a quick buck. I know from experience that the same holds true for earning money online.
Simply: If you want to earn income, you have to work for it; that is, income is active. The IRS may call certain things “passive income,” but the term itself is a lie.
Things are a little different from an investor’s point of view, and I’ll tackle that approach soon.
Published or updated June 3, 2008.