The terms residual income and passive income are often used interchangeably. But the two are different. Learn about residual income vs passive income!
Passive income refers to the money earned by an individual or a business with little or no effort. That is, the individual concerned doesn’t have to devote active time to running the enterprise that generates passive income. Residual income, on the other hand, is the amount of discretionary money available to an individual or entity once they have paid their bills, debts, and mortgages, and met all financial obligations.
Many sources of residual income and passive income are the same. But one can also earn residual income from active work. If you are working at a company, then the discretionary income left with you after paying all your bills and expenses is residual income. So, all residual income is not passive income.
What is residual income?
Residual income can be defined in many ways. For an individual, it is the discretionary income left after meeting all expenses including bills, debts, utilities, groceries, car payments, and mortgages.
So you can earn residual income from both active and passive work. The residual income earned from active work can help you set up a passive income stream.
Residual income can increase your financial security, help you do better retirement planning, and enable you to earmark funds for different kinds of investments.
Residual Income can be divided into three categories:
- Personal finance – In personal finance, residual income is used to calculate an individual’s creditworthiness by banks and other financial institutions. They use it to determine whether the individual is earning enough to cover their expenses and secure a loan.
- Corporate finance – In corporate finance, residual income is used to calculate a company’s profit or net operating income. Residual income would be any profit that remains after a company has paid all its capital costs. The residual income of a business is used for assessing its business unit performance or capital investment.
- Equity evaluation – In the context of equity evaluation, residual income is a valuation method to estimate the value of a stock.
- Online business – If you have an online business, residual income would refer to the amount of money you continue to make after putting in the initial effort.
What is passive income?
Passive income is the kind of income that is generated through little or no effort.
Passive income is typically generated through investments that do not require any more work than maintaining the investment. If you are earning passive income through an enterprise, it has to be something that does not take too much of your time.
Developing a passive income stream is beneficial in many ways. It frees up a considerable amount of your time for pursuing hobbies, interests, or simply relaxing. Passive income also leads to greater financial security. It helps you create consistent wealth by investing in businesses or financial products.
You might need to invest a considerable amount of money in setting up some passive income sources. If you start a Youtube channel or publish an e-book, you won’t start earning right away. A lot of time and effort is needed before that income source begins to generate passive returns.
Differences between Residual Income and Passive Income
- Passive income comes from an enterprise that requires little or no effort, whereas residual income can also come from active work. It is the amount of discretionary income left after you’ve cleared all your bills and liabilities.
- Passive income is a kind of income stream that an individual or business sets up by investing in financial products or other avenues like Real Estate Investing, Farmland Investing, Rental Properties, Forex Fund Manager, etc. Residual income, on the other hand, is used as a tool, to determine the credit worthiness of a potential borrower.
- Passive income is not always residual and vice versa. If you use all your passive income to clear loans, debts, and other liabilities, then it doesn’t qualify as residual income. Similarly, residual income can be earned from active income sources like a job.
- Passive income is linked to wealth creation, whereas residual income is also linked to your lifestyle. You must improve your financial credibility by not taking unnecessary loans and maintaining a lifestyle that matches your income levels to earn residual income.
- Passive income is money earned through little or no effort, whereas residual income is also connected to your spending habits. If you spend way too much than your earnings, then your residual income would always be low, no matter how well you earn.
- Passive income is about financial opportunities, whereas residual income is more about financial management.
How to grow residual income?
1. Increase your income
One of the most obvious ways of growing your residual income is by increasing your monthly income. This could be done by seeking job promotions or switching to a job that pays more. You could also increase your income by learning new skills and developing new income streams.
2. Reduce your expenses
One of the main differences between residual income and passive income is that the former is also about judicious spending. No matter at what rate you increase your wealth, you still got to regulate your spending somewhere.
One way of growing residual income is by reducing your monthly expenses. Pay off your credit card debts. Stop taking unnecessary loans for things you do not need. Remember that the greatest of millionaires are super frugal.
Growing your residual income is all about sound financial management. Reducing your monthly expenses will automatically increase your residual income.
3. Rent out property
Renting out property is a great way to grow your residual income. If you already have a mainstream income source, then renting out a property could become a side business. Since this would mean extra income that you do not touch, it automatically becomes residual income.
You could invest in a property and then rent it out. However, if you already have an additional property that could be put on rent, the chances of growing your residual income are even higher.
Renting out property is a great way to grow your residual income, but it might require some initial investment. You will have to take care of the maintenance and upkeep of the property. You may want to hire a manager to see to all these routine affairs.
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4. Start a side hustle
If you have a talent that could become a potential income source, cash in on it! Start a side hustle in an area you are passionate. It could be writing, software development, web designing, digital marketing, graphic designing, or influencer marketing.
Taking on a side hustle would increase your earnings, thus growing your residual income.
5. Invest in financial products
Investing is the most time-tested way to create wealth.
You could increase your residual income by investing in multiple financial products like stocks, bonds, real estate investment trusts, and forex funds.
Certain investments like dividend stocks give you regular dividends. They could be handy for growing your residual income. Then, others grow in value over time.
Investing is a great strategy to increase your residual income. However, you must consult an investment advisor who can evaluate your finances and suggest the best possible investment options.
A good rule of thumb is to create a diversified portfolio so that the relatively safer investment options balance the risky ones.
Side Hustle Ideas for Growing Residual Income
- Write a book
- Create a website to sell a product
- Go for affiliate marketing
- Become a social media influencer
- Sell your art or photos online
- Start a podcast
- Create an app
- Launch your online course
- Become a digital marketing expert
How to grow passive income?
1. Investing
Investing in financial products is one of the best strategies for growing passive income. Once the investment is made, you got to do nothing more than keep track of your investment.
You could opt for safe investment options like high-yield savings accounts, certificates of deposits, and dividend stocks. You could also go for the riskier options like growth stocks and small-cap stocks.
How much passive income you can grow through investments depends on your priorities and risk-taking ability.
2. Real Estate
Investing in real-estate remains one of the most lucrative ways to grow passive income. You could invest in real estate investment trusts. These are companies that own commercial real estate like retail spaces, hotels, office buildings, apartments, etc.
By investing in REITs, you get income payments depending on the cash flow generated by their operations.
Real estate investment trusts are a good passive investment option since you don’t have to do active work in terms of managing the property yourself. They come with some risks though.
3. Renting property
Renting property is one of the most tried and tested strategies to growing your passive income.
If you own property in a good market location, you could start renting it right away. Or, you could invest in buying property or land in prime locations.
Renting a property can be a truly passive income option only if you hire a property manager. They would deal with the regular stuff like finding new renters, paying property taxes and multiple mortgages, managing the properties long-term, and handling any possible disputes with renters.
If your property is a real estate hotspot, you could make some seriously good passive income by renting it out.
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4. Start an online business
Starting an online business is one of the best ways to create passive income. Although this will require work initially, once it starts generating returns, the income becomes truly passive.
You could start a blog in a niche you are passionate about. Once the blog starts getting popular, you could earn money through subscriptions, ads, affiliate marketing, and by selling physical or digital products online.
If you are skilled in a subject like music or writing, you could create online courses and start posting your lessons on sites like Udemy and Coursera.
There are many ways to make passive income from an online business. The best part is most online businesses require little or no initial investment.
5. Rent your car
Renting out your car is one of the easiest and most reliable ways to grow your passive income.
If you own a car, you don’t have to make any additional investment. It’s a flexible business option that gives you the freedom to pick and choose your timings. You could create a schedule for renting the car so that it’s available for use whenever you need it.
Car renting is one of the most hassle-free options to grow your passive income.
Bottom Line
Residual income and passive income are mostly confused as being the same thing. But there are tangible differences between the two.
Many ideas to grow your residual and passive income are the same. But the major difference between the two is that residual income can also be grown from active work. For example, if you work at a company, you could take up an additional part-time job to make extra money. This would not qualify as passive income because it’s active work. But it well qualifies as a source of residual income.
Residual income is about creating additional income that you do not spend, at least not immediately. Passive income is about creating additional income streams through work that involves little or no effort. Whether or not you spend it, how much of it you spend, all these questions are irrelevant.
Ultimately, one can say that both residual income and passive income are necessary for sound financial management.
You must grow your residual income to make sure you have enough money for investment. And for doing that, you could very well tap into passive income sources.
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