How to Generate Passive Income: 6 Strategies to Consider

We all rely on our income to pay our daily expenses, including things like rent or mortgage, utilities, food, clothing and entertainment. People who work for an employer often have a single stream of income and in an uncertain economy, it can be a little scary to know that if you lost your job, you would need to hustle to replace what you earn.

Here at Addition Financial, we love talking to our members about income and finances. A topic that’s been coming up a lot lately is how to generate passive income. If you’re looking for ways to increase your income without getting a second job, then learning about passive income strategies is a must. Here are six passive income strategies to try.

What is Passive Income?

Let’s start by defining passive income for those who aren’t familiar with the term. Passive income is any income you earn from a source other than a job. This contrasts it with active income, which is money you earn in return for work that you do, whether you work for an employer or for yourself.

Passive income can be earned from a variety of sources. Here are a few examples:

  • Investing in dividend stocks or funds
  • Buying a property and renting it out
  • Creating online content that people can buy
  • Peer to peer lending

Some methods of passive income generation require little to no investment up front while others, such as rental income, require a significant investment. The main benefit of passive income is that you can earn it any time, even while you’re on vacation or fast asleep.

Why Should You Diversify Your Income Streams?

There are some good reasons to consider diversifying your income. Here are some benefits of income diversification:

  • Income Security. When you have income from more than one source, it provides income security. If one stream of income dries up, the others can provide the money you need until you can replace it.
  • Economic Changes. When the economy is troubled or volatile, having multiple income sources can help you to navigate changes as they occur and keep your feet under you financially in a way that you couldn’t with a single income stream.
  • Financial Goals. Your long-term financial goals may require saving money for things such as your child’s college education or an early retirement. With diversified income, you can use some of your funds for investment and saving while still meeting your regular expenses.
  • Debt Repayment. Many Americans carry credit card debt. Creating streams of passive income can help you increase your debt repayment ability and pay down your debts as quickly as possible.

These benefits make it clear why you might want to consider income diversification with passive income.

6 Creative Strategies to Generate Passive Income

If you want to augment your existing income with passive income, here are six strategies to try.

#1: Dividend Investing

Dividend investing is a strategy that focuses on purchasing shares in companies that pay dividends to investors. Dividends are a way for shareholders to participate in the profits of a company and are usually paid on a quarterly basis.
You can earn dividends by purchasing stocks in companies or exchange-traded funds that pay dividends. If you decide to try this strategy, it’s essential to research the company or fund dividend history to make sure you understand what you can expect to earn.

You can also earn dividends with a dividend-bearing checking account, like Addition Financial’s Benefits Checking. Dividend-bearing checking accounts are available only at credit unions because members are also owners. In most cases, the dividends you earn are higher than the interest rates you would earn at a bank.

#2: Rental Properties

Buying rental properties, either alone or as part of a trust, can be a good way to earn passive income. The potential downside is that there are large initial expenses, including a down payment, and ongoing expenses such as property management and property taxes, that will impact how much you earn.

Real Estate Investment Trusts, or REITs, offer an affordable way to invest in real estate without taking on the responsibilities and expenses of property ownership. REITs pay dividends as well, and are legally required to pay out a minimum of 90% of their taxable profits to shareholders in the form of dividends.

#3: Bond Ladders

Bonds are a relatively low-risk investment that allow buyers to earn money by making short-term loans to either a government or a corporation. Corporate bonds carry more risk than government bonds but also have the potential to deliver larger returns than government bonds.

A bond ladder is built when an investor purchases bonds with staggered maturity dates. A simple bond ladder might include bonds with one year, two year, three year, five year, and seven year terms. At the end of one year, the first bond would be mature and you could sell it. You could use the income from the bond or keep some and reinvest the rest in a new bond. As each bond matured, you would receive income.

#4: High Yield CDs

If you’re looking for a low-risk way to earn passive income, putting your money in a high yield certificate of deposit (CD) or term share certificate can allow you to do so. Certificates typically earn a significantly higher interest rate than a traditional savings account.

The downside of CDs is that the potential return on your investment is limited and unlikely to generate a significant amount of cash. However, buying a CD can be a good hedge against the risk associated with other investments.

#5: Peer to Peer Lending

Online peer lending platforms have become quite popular and if you go about it the right way, they can represent an opportunity to earn passive income. The idea is that you use your money to lend to others and, when they repay the loan, you earn a profit. Lending platforms such as Lending Club, SoFi, and Prosper may pay up to 7.5% or more for P2P lending.

The caveat here is that while the platform you choose will likely do some vetting for the person you’re lending to, you should check them out on your own, too. There is a risk to you if the borrower doesn’t make their payments but you can mitigate that risk by spreading out your money across several loans.

#6: Private Equity Funds

If you like the idea of helping someone start or grow a business, then investing in a private equity fund could be right for you. You’ll get a return if a business you help to finance succeeds and the potential for significant profits can be very appealing.

You’ll need to keep in mind that many private equity funds have income and asset requirements that you’ll need to meet if you want to participate. We would suggest being cautious about funding any one business with your own money because of the high risk involved.

What Are the Methods of Reducing Risk When Earning Passive Income?

The thought of earning passive income is an appealing one. After all, who doesn’t want to have money coming in even when they’re not working?

Before you dive into any one of the strategies we’ve outlined here, let’s review some things you can do to reduce your risk and minimize the chances of losing money:

  • Never invest more than you can afford to lose. This advice is particularly important if you're engaging in something like peer to peer lending. Investing too much money can put you in financial difficulty, so be mindful of your ongoing needs and stay within your budget.
  • Diversify your investments to reduce risk. When investing, it’s never advisable to put all your eggs into one basket. By investing in multiple passive income strategies, you’ll increase your chances of earning steady income and reduce the risk that you’ll lose money.
  • Research your investments. If you’re going to rely on an investment as a source of passive income, we strongly recommend doing your own research before diving in. That may mean looking up the dividend history of a company or fund, considering multiple bond ladder strategies or vetting borrowers for peer to peer lending. Trust your instincts and don’t get involved if an investment doesn’t feel right.
  • Be patient. Some passive income investment strategies may take time to pay off in a significant way. You’ll need to give the money time to start coming in. In many cases, passive income investing is a long game.
  • Review your investments. Even if you are earning money on your passive income investments, we still recommend reviewing your investments regularly. You may need to rebalance your asset allocation and it’s always a good idea to diversify your investments to minimize your risk.

These tips can help you to keep your risk under control and use your investments to earn passive income for years to come.

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Generate Passive Income with Help from Addition Financial

Earning passive income can help you improve your cash flow and give you the means to make your most important financial dreams into realities. The 6 passive income strategies we’ve included here can get you started.

Are you ready to start earning passive income? Addition Financial can help! Click here to read about our Benefits Checking account and join today!

The content provided here is not legal, tax, accounting, financial or investment advice. Please consult with legal, tax, accounting, financial or investment professionals based on your specific needs or questions you may have. We do not make any guarantees as to accuracy or completeness of this information, do not support any third-party companies, products, or services described here, and take no liability or legal obligations for your use of this information.