What you need to know about active income vs. passive income

Most people’s idea of income involves active effort, involving a 9-to-5 job or a business where they spend their hours and skills in exchange for a salary. However, this is not the only way to generate income.

The second type is passive income, which lets you earn money with little effort and time. If this is news to you, keep on reading and we’ll discuss the difference between the types of income and share what are the best passive income investments.

Active income versus passive income

There are two types of income: active and passive income. Let’s differentiate them.

What is active income?

Active income is defined as salary earned from specific duties or services done according to an agreed task, within a specified time frame.

Examples of active income are salaries, tips, fees, commissions, and allowances from the companies you provide services to. If you’re working for a person or a company–be it manual labor, office work, or home-based service–you earn an active income. You can be working for yourself, which is called being self-employed.

Active income earners are either full-time, part-time, freelancing, or contractual workers. It is the most common type, if not the only type of income for most Filipino households.

Payment for active income earners happens every two weeks (colloquially called “kinsenas” or paid every 14 to 15 days). However, some do get paid daily, weekly, once every month, or per project.

Another way a person can earn active income is by selling a product. Such is the case for artists, bakers, chefs, and tailors who sell things they create.

Having a regular active income has distinct advantages. It is secure and predictable, which makes it easier to budget for your monthly expenses, build good money habits, and save up or plan for certain goals.

However, a regular active income comes with challenges. Monthly salaries tend to be limited, and it may not be enough to cover rising living expenses. This makes it difficult – if not impossible – for salary-earners to build their life savings and rainy day funds.

This leaves workers dependent on their paychecks, unable to save for retirement. Unfortunately, nobody can continue performing duties or providing services their entire lives. So, what can you do about it? You may need to assess how to increase your income source, highlighting why passive income is important.

What is passive income?

Passive income is money from activities where you have less active or direct involvement. These may be investments you have made where you earn money or work you have done in the past that continues to pay dividends. Passive income describes the idea of “making money work for you.”

Most of us are trained to attain only active income growing up, which is why only few know about how to earn passive income. Unlike being fully employed or doing freelance work, it does not require much of your time and effort.

What are examples of a passive income? One common passive income is through opportunities and activities where you can turn money into assets. Here are examples:

• Buying and selling real estate
  
• Investing in “ownerships” of public companies through the stock market
  
• Investing in government bonds (which are IOUs by the government to those who want to grow their money for an agreed time)
  
• Depositing money in time deposits (which can be used to help build an emergency fund)
  
• Royalties from a book you wrote
  
• Income from an online course you created
  
• Rental income from real estate properties
  

When you have passive income, you’re no longer dependent on your active income to cover your living expenses.

It takes years to build a sizable passive income. You’ll need an initial investment, which serves as your capital, to jumpstart your passive income. You can invest money or some of your time.

If you want to get started on stocks, this is [where you can invest your year-end bonus](/articles/learn/13th-month-pay-bonus-ideas. For things like rental properties, stocks and bonds, and even businesses, you need to shell out money upfront before they start generating passive income.

Income sources like online courses, affiliate marketing, and blogging require time and effort to build up before you can earn from them. But once you have made the initial investments and your ventures go well, you rarely need to put in additional effort after that.

Many people are interested in learning where to invest money for passive income so they can turn it into their main source of income. However, the main benefit of passive income is also its biggest downside – the flexibility.

With passive income, you have little control over your earnings. If your rental property doesn’t have tenants, you get no income but will still need to pay real estate tax and association dues. Stock prices rise and fall, and thus you stand to lose money in stocks. Investing in corporate bonds presents the risk of companies closing down and being unable to pay you back.

How to take advantage of both active income and passive income

Active and passive income are interconnected. The more you earn from your active income, the more you can invest to earn passive income. You can invest more aggressively in passive sources of income if your active income more than covers your regular expenses. This assumes you have an emergency fund so that you don’t have to source money from your monthly budget in the event of an unexpected expense.

The more you earn from passive income, the more you can afford to take risks with your career, and move to a more lucrative job.

The more you earn from your passive income, you might be able to take a job that pays less but is more aligned with what you want to do in life. One financial goal you can set is to earn more from passive income so you can work for fulfillment instead of money.

What type of passive income source are you investing in?

Now that you understand the different types of income and where to invest money for passive income, you can make better decisions to improve your finances. Having both active and passive sources of income will open possibilities and opportunities for you to achieve financial freedom.

Visit Metrobank or contact us to learn more smart investment tips.