Passive income is defined as income earned from activities that require a lower degree of effort vs a full-time occupation.
In contrast to active income (for example, salary from a job), passive income is generally money earned steadily over time.
Generating passive income is a great way to build wealth in tandem with your active income.
While setting up your passive income stream may take some time, the long-term goal should be to create a stream of income that requires minimal time or resources.
Here are some examples of how you can earn a passive income.
1. Rental Properties
Time Commitment: Medium
Capital Required: High
A great way to earn passive income is to invest in a rental property.
These properties can be used to collect passive income through short or long-term rentals.
As a landlord, there is a moderate level of time required for upkeep of the property.
For long-term renters, landlords are responsible for responding to concerns raised by their tenants.
If there are maintenance issues, landlords will need to either hire someone or go to the unit themselves to remedy the issue.
In other situations, landlords may need to follow up with renters who are late on their payments.
If the rental property is used for short-term rentals through services like Airbnb, there are several responsibilities you may have as the owner.
The cleaning of the property between guests will either be your responsibility or the responsibility of a cleaning company that you hire.
In addition, any disputes in terms of damage to the property can also result in a lot of time going back and forth with the guest and Airbnb.
One of the biggest barriers to entry will be the high upfront costs required.
Purchasing a rental property will require a down payment, as well as approval for a mortgage.
Depending on where the property is located, the down payment could range from tens to hundreds of thousands of dollars.
The high upfront costs need to be considered and weighed against other options.
Don’t stop there though – property maintenance and upkeep, property manager fees, property taxes – there are still plenty of costs apart from the mortgage payment, so do your homework to understand the rate of return you’re actually achieving.
2. Investing in dividend stocks
Time Commitment: Low
Capital Required: Low to High
Investing is one of the most widely used ways of building passive wealth.
Participating in the stock market is a great way to set money aside and compound growth over time.
In particular, investing in dividend stocks is a good way to ensure a steady stream of income from your stock portfolio.
When companies make a profit, they can either reinvest the money into the company or pay out these profits to shareholders.
Through dividends, companies can reward shareholders who have invested money into the company.
These dividends are paid out at regular intervals (e.g. quarterly) throughout the year.
Older and more established companies are most likely to distribute dividends, as newer companies may wish to reinvest most of their profits back into research and development.
Common sectors that will distribute regular dividends include energy, financial services, telecommunications, and utilities.
Many investors seek out companies specifically for their long-term track record of distributing dividends.
While there is no guarantee these companies will continue distributing dividends year over year, their track record makes them a good bet for those looking to build a passive income stream.
For example, investors have come to expect dividends from companies like the Big 5 banks in Canada, which have been distributing dividends for over 100 years.
When trying to determine how much passive income can be earned from dividend investing, the key metric to pay attention to is the dividend yield.
Dividend yield refers to the percentage paid back in dividends.
For example, if a company offers a 5% dividend yield, investors will receive $5 for every $100 they own in the stock.
Dividends will compound over time if they are reinvested into the company using a dividend reinvestment plan (DRIP).
DRIP: A strategy used to automatically reinvest dividends back into additional shares of the company. DRIPs are advantageous as they allow investors to invest more money into a company without paying trading commissions.
3. Leverage your skills
Time Commitment: High
Capital Required: Low
If you have a unique skill that many others want to learn, there are many opportunities to generate passive income.
For example, if you are a talented gardener, you could create a course on a website like Udemy and charge others to learn from you.
Creating courses on the website is free, and the pricing of the course can be set by the course creator.
Instructors generally charge an average of $10 to students for their courses.
However, it is not uncommon to find courses for $100 or even $200 depending on how niche the skill being taught is.
Once the course is set up, you can earn income from new student sign-ups, thus allowing you to generate a great passive revenue stream.
Another way of leveraging your skills is by writing an e-book.
If you are a great writer with a talent or skill many people are interested in, writing an e-book can be very profitable.
Since e-books don’t require printing and distribution like physical books do, there are little upfront costs with this strategy.
After writing your book, you can sell it through sites like Amazon for a nominal fee.
4. High Interest Savings Account
Time Commitment: Low
Capital Required: Low
While not the most exciting option on this list, high-interest saving accounts are a safe route to generating passive income.
Instead of placing money into traditional savings accounts, individuals can choose to seek out high-interest saving accounts to earn interest over time.
In a low rate environment, yield rates in high-interest saving accounts are generally in the range of 0.50% to 1.50%.
However, in a high rate environment, you can possibly find rates in the 2% to 3% range.
GICs also become attractive in a high rate environment, with cashable or short term non cashable terms.
Overall, this option is one of the least riskiest and lowest effort paths towards generating a passive income.
As returns are guaranteed, individuals can rest assured their account is safe and generating income.
This makes high-interest saving accounts perfect for risk-averse individuals who do not have the appetite or time to commit towards other passive income options.
Frequently Asked Questions
- Is passive income taxable in Canada?
Yes, passive income is taxable in Canada, however the treatment of how it is taxed can vary compared to active income. For example, rental properties may be considered either rental income or business income depending on the type of services offered. If you are selling things Each situation is unique, and understanding how taxes can impact the profitability of your passive income stream is an important step in the process.
- Is rental income considered passive?
For the most part, rental income is considered passive. However thing like unit maintenance, addressing tenant concerns, getting the unit rented and cleaned it’s a short-term rental are just some of the tasks associated with having a rental property.