If you’re looking to achieve financial freedom before a traditional retirement age (60+), you must build passive income. This post will highlight the best passive income investments in our current economic environment.
Passive income is the holy grail of personal finance. If you have enough passive income to cover your desired lifestyle, then you are free at last! You can say and do whatever you want. Too many people fail to live their truth due to a lack of passive income.
However, the only way to generate useable passive income is by building a taxable investment portfolio, which includes investing in real estate, alternative investments, and more.
Maxing out your 401(k), IRA, and Roth IRA are great moves. Unfortunately, they can’t generate passive income to live on until after you turn 59.5, in most cases. When it comes to achieving financial freedom, the hope is that we achieve it as soon as possible given our time is limited.
Why I Focused On Building Passive Income
After about the 30th day in a row of working 12+ hour days and eating rubber chicken dinners at our company’s free cafeteria, I decided I had enough. Working in investment banking was wearing me out. I needed to generate more passive income to break free.
There was no way I could last for more than five years working in a pressure cooker environment like Wall Street. Thus, I started focusing on generating passive income in 1999.
However, it wasn’t until the 2008-2009 financial crisis where I became obsessed with building passive income. The previous financial crisis made working in finance no fun. I’m sure many people are feeling the same way about their occupations during the global pandemic as well.
It wasn’t until 2012 when I generated enough passive income (~$80,000) to break free from work. And it wasn’t until 2017 when I was able to generate enough passive income to take care of a family ($200,000).
Today, I estimate my wife and I will generate roughly $380,000 in passive income. We’ve discussed how to get started building passive income for financial freedom before. Now I’d like to rank the various passive income streams based on risk, return, feasibility, liquidity, activity, and taxes.
I’m updating my passive income rankings for 2023 given so much has changed since my original passive income rankings came out in 2015. A key difference to my best passive income investments ranking is the inclusion of taxes as new ranking variable. After all, tax treatment can significantly affect returns.
The best passive income rankings are born from my own real-life experiences. I’ve been working on building passive income since I got my first full-time job in 1999.
Best Passive Income Investments Starts With Saving
By far the most important reason to save is so you can have enough money to do what you want, when you want, without anybody telling you what to do. Financial freedom is the best!
Sounds nice right? If only there was a formula or a chart like the 401k by Age chart which gives people guidance on how much to save and for how long in order to reach financial freedom.
Unfortunately, saving money is only the first step in building passive income. Figuring out how to properly invest your savings is even more important.
If you can max out your 401k or max out your IRA and then save an additional 20%+ of your after-tax, after-retirement contribution, good things really start to happen. The ultimate goal I recommend is for everyone to shoot to save 50% of their after-tax income or more.
It is your taxable retirement portfolio that is going to allow you to retire early and do whatever you want. Because it is your taxable retirement portfolio that spits out passive retirement income. You can’t touch your 401(k) and IRA before the age of 59.5 without a 10% penalty.
The pandemic has shown us that if we WANT to save more, we can. Before the pandemic began, the U.S. personal saving rate hovered around 5% – 7%. Now it looks like the average saving rate may consistently be above 10%.
Let’s take a look at the best passive income investments for 2023 and beyond.
Ranking The Best Passive Income Investments
Below are the eight best passive income investments to consider. Each passive income stream is ranked based on Risk, Return, Feasibility, Liquidity, Activity, and Taxes. Each criterion has a score between 1-10. The higher the score, the better.
- A Risk score of 10 means no risk. A Risk Score of 1 means there is extreme risk.
- A Return score of 1 means the returns are horrible compared to the risk-free rate. A Return Score of 10 means you have the highest potential of getting the highest return relative to all other investments.
- A Feasibility score of 10 means everybody can do it. A Feasibility score of 1 means that there are high requirements to be able to invest in such an asset.
- A Liquidity score of 1 means the investment is very difficult to withdraw your money or sell without a penalty or a long period of time. A Liquidity score of 10 means you can access your funds instantly without penalty.
- An Activity score of 10 means you can kick back and do nothing to earn income. An Activity score of 1 means you’ve got to manage your investment all day long like working a day job.
- A Tax score of 1 means the investment is taxed at the highest possible rate and there’s nothing you can do about it. A Tax score of 10 means the investment is generating the lowest tax liability possible or you can do things to lower the tax liability.
To make the ranking as realistic as possible, every score is relative to each other. Further, the return criteria are based on trying to generate $10,000 a year in passive income.
Best Passive Income Investment Chart
Let’s look at my overall Best Passive Income Investments ranking chart. It has recently been updated to account for the ever-changing economic environment. Interest rates will likely stay low for a while, which makes generating meaningful passive income harder.
Compared to the previous best passive income investments chart, Fixed Income / Bonds moved down from 3rd best to 5th best. While Physical Real Estate moved up from 5th best to 3rd best partly due to higher net rental yields and lower prices. Inflation is elevated in 2023, but is finally coming down.
Dividend (stock) investing is still the ranked the best passive income investment. However, it may not be the best for you given its higher volatility and lower relative yields.
Private real estate funds, on the other hand, is much less volatile and provides even higher yields. During bear markets, private real estate funds like those from Fundrise tend to outperform.
Best Passive Investment Rank #8: Hard Money Lending / Peer-to-Peer Lending (P2P)
Lending money directly to friends, family, and strangers for passive is tough to do. friendships and relationships are often ruined because of money. Therefore, I don’t recommend doing it unless the person you care about is desperate. In such a situation, it would be best to provide an interest-free loan or a gift.
To make lending money less personal, you could got the P2P lending route. P2P lending started in San Francisco with Lending Club and Prosper in mid-2000. The idea of peer-to-peer lending is to disintermediate banks and help denied borrowers get loans at potentially lower rates compared to the rates of larger financial institutions.
The biggest problem with P2P lending is people not paying investors back e.g. borrowers default on their loans. There’s something that just doesn’t sit right when people break their contract obligations.
Over time, the P2P industry has seen its returns shrink due to higher competition and more regulation. As a result, I believe making money through P2P investing is one of the worst ways to generate passive income today.
Risk: 4, Return: 2, Feasibility: 8, Liquidity: 4, Activity: 7, Taxes: 5. Total Score: 30
Best Passive Investment Rank #7: Private Equity Or Debt Investing
Private equity investing can be a tremendous source of capital appreciation with the right investments. If you find the next Google, the returns will blow every single other passive income investment out of the water. But of course, finding the next Google is a tough task since most private companies fail. Further, the best investment opportunities always go to the most connected investors.
The most liquid types of private equity investments are those investing in equity or credit hedge funds, real estate funds, and private company funds. Private debt investments include venture capital and real estate funds as well. There are usually 3-10-year lockup periods, so the Liquidity score is low. These funds should at least provide for some semi-regular passive income distributions.
The least liquid type of private investment is when you invest directly into a private company. You could be locked up forever and receive zero dividends or distributions.
Access to private investments are usually restricted to accredited investors ($250K income per individual or $1 million net worth excluding primary residence), which is why the Feasibility Score is only a 2.
But the Activity Score is a 10, because you can’t do anything even if you wanted to. You’re investing for the long term without the daily noise, which is why I enjoy investing in private funds, even though fees are higher. The Risk and Return score greatly depends on your investing acumen and access.
Gaining $10,000 a year in private equity investing is difficult to quantify unless you are investing in a real estate or fixed income fund. Such funds generally target 8-15% annual returns, which equates to a need for $83,000 – $125,000 in capital.
Risk: 6, Return: 8, Feasibility: 3, Liquidity: 3, Activity: 10, Taxes: 6. Total Score: 36
Best Passive Investment Rank #6: Certificate of Deposit (CD) / Money Market
Anybody can go to their local bank and open up a CD of their desired duration. Furthermore, CD and money market accounts are FDIC insured for up to $250,000 per individual and $500,000 per joint account.
Now you can typically only get an online money market account paying ~3.2% (as of 1H 2023) because the Federal Reserve has hiked the Fed Funds rate aggressively. As of January 2023, another great option to take advantage of is CIT Bank’s Savings Connect account offering 4.05% APY. CD interest rates are also way up.
It still takes a tremendous amount of capital to generate any meaningful amount of passive income with savings now. To generate $10,000 a year in passive income at 3.2% requires $312,500 in capital. At least you know your money is safe, which is great during bear markets.
Relatively low interest rates are why it’s prudent to lower your safe withdrawal rate in retirement and/or build a bigger net worth before you retire. It takes a tremendous amount more in capital to generate the same amount of risk-adjusted income today.
Today, you can get a 18-month CD yielding 4.6% from CIT Bank. Up to $250,000 per person is FDIC guaranteed. The rate is the best we’ve seen in years.
Risk: 10 (no risk), Return: 1 (the worst return), Feasibility: 10 (anybody can open up a savings account). Liquidity: 6 (savings are easily accessible, but not CDs without a penalty). Activity: 10 (you don’t have to do anything to earn passive income. Taxes: 5 (interest income is taxed as normal income). Total Score: 42
Best Passive Investment Rank #5: Fixed Income (Bonds)
Bond yields are finally attractive again! After 35+ years of inflation and interest rates going down, bonds had one of the worst years in history in 2022. With inflation surging higher bond funds have collapsed.
The 10-year yield was at only 0.51% in August 2020. But now, the 10-year bond yield is at ~3.8%. I would take advantage of this temporary spike in bond yields and buy Treasury bonds with 3-month, 6-month, 9-month, and 1-year durations. If and when inflation roles over, you’ll be glad you own Treasury bonds at 4.2% – 4.75% rates.
Long term, I believe interest rates will stay low for a long time. Just look at Japanese interest rates, which are negative (inflation is higher than the nominal interest rate).
Bonds usually provide a good defensive allocation to an investment portfolio, especially during times of uncertainty. If you hold a government bond until maturity, you will get all your coupon payments and principal back.
But just like stocks, there are plenty of different types of bond investments to choose from. Further, the aggregate bond market was down about 14% in 2022, the worst year ever. Hence, even bonds are not always safe havens.
Anybody can buy a bond ETF such as IEF (7-10 Year Treasury), MUB (muni bond fund), or a fixed income fund like PTTRX (Pimco Total Return Fund). You can also buy individual corporate or municipal bonds. Just know that with bond funds, there is no maturity date. Hence, you will experience higher principal risk if you need to sell.
Municipal bonds are especially enticing for higher-income earners who face a high marginal tax rate. You can also directly buy Treasury bonds through your online brokerage platform.
Main Concern With Bonds
The main concern for bond funds is that their values go down when the Federal Reserve hikes interest rates. That said, so long as you hold individual bonds to maturity, you should get your initial principal back along with all the coupon payments if you are buying a highly rated bond e.g. AA.
Bonds are usually investment to help decrease volatility in your portfolio. I hope everybody at least takes advantage of lower interest rates and refinances their mortgage.
Risk: 6, Return: 2, Feasibility: 10, Liquidity: 7. Activity: 10. Taxes: 8. Total Score: 43
Best Passive Income Rank #4: Creating Your Own Products
If you’re a creative person, you might be able to produce a product that’s able to generate a steady flow of passive income for years to come. At the extreme, Michael Jackson makes more dead than alive. This is due to the royalties his estate makes from all the songs he produced in his career. Since Michael’s death, his estate has made over $2.5 billion according to Forbes.
Of course, it’s unlikely any one of us will replicate the genius of Michael Jackson. But you could produce your own eBook, traditional book, e-course, award-winning photo, or song to create your own slice of passive income.
Example Of A Product
In 2012, I wrote a 120-page eBook about severance package negotiations. Today, the book is in its 5th edition for 2023 and is 200-pages long. It regularly sells about ~50 copies a month at $87 – $97 each without much ongoing maintenance.
Another way to think about how profitable creating a product can be is to look at the amount of capital it would take to generate the same about of earnings. For example, to replicate the ~$40,000 a year in passive income I can get from the book, I would need to invest $1,000,000 in an asset that generates a 4% yield. To earn $10,000 a year in passive income would therefore need roughly $250,000 in capital.
Who would have thought a book about engineering your layoff could regularly generate so much revenue? We’re so busy with our jobs that our childhood creativity sadly vanishes over time. Now that millions of jobs are at risk, the book has become a better seller.
Another Example: Royalty Payments
On July 19, 2022, I published an instant Wall Street Journal bestseller, Buy This, Not That: Spend Your Way To Wealth And Freedom. The book took two years to write and has been reviewed and revised 15 times by three professional editors. I figured why not write a great personal finance book during the pandemic.
Once the book sells enough copies to cover my book advance, I will make a 13% royalty based off each hardcover sale. I believe the book will provide at least 100X more value than the cost of the book. You can pick up a copy on Amazon, where it currently has the best sale.
Leverage the internet to create, connect, and sell. The startup costs are low and it’s easier than ever to launch your own site. The only main risks are lost time and a wounded ego.
Here’s my step-by-step guide on how to start your own profitable site in under 30 minutes. You want to build an online business that can’t get shut down.
Below is a real income statement of a personal finance blogger who started his website on the side while working.
If you are a constant daydreamer, creating your own product is one of the best ways to go. The margins can be extremely high once your product is produced. The only thing you need to do is regularly update the product over time. If you have a great product, the upside is enormous.
Risk: 8, Return: 8, Feasibility: 8, Liquidity: 6, Activity: 7, Taxes: 7. Total Score: 44
Best Passive Investment Rank #3: Physical Real Estate
Real estate is my favorite asset class to build wealth for the average person because it’s easy to understand, provides shelter, is a tangible asset, doesn’t lose instant value like stocks overnight, and generates income. When I was in my 20s and 30s, I thought owning rental properties was the best passive income investment.
The only bad thing about owning physical real estate is that it ranks poorly on the Activity variable due to tenants and maintenance issues. You can get lucky with great tenants who are self-sufficient and never bother you. Or you can be stuck with tenants who never pay on time and throw house-damaging parties.
Maintenance issues can be an ongoing headache without proper preventative maintenance. For example, your roof could leak during the next Bomb Cyclone. Or your water heater could burst and flood your basement. Both have happened to me before!
Owning your primary residence means you are neutral the real estate market. Renting means you are short the real estate market. Only after buying two or more properties are you actually long real estate. This is why everybody should own their primary residence as soon as they know they want to stay put for 5-10 years. Inflation is too powerful a force to combat.
In order to generate $10,000 in Net Operating Profit After Tax (NOPAT) through a rental property, you must own a $50,000 property with an unheard of 20% net rental yield, a $100,000 property with a rare 10% net rental yield, or a more realistic $200,000 property with a 5% net rental yield.
Generating High Rental Income Is Tough On The Coasts
In expensive cities like San Francisco and New York City, net rental yields (cap rates) can fall as low as 2.5%. This is a sign that there is a lot of liquidity buying property mainly for appreciation. Income generation is second. This is a riskier proposition than buying property based on rental income.
In inexpensive cities, such as those in the Midwest and South, net rental yields can easily be in the range of 7%+, although appreciation may be slower.
I’m bullish on the heartland of America real estate and have been actively buying multifamily real estate there through real estate crowdfunding and specialty REITs, which we will discuss more below. Owning rental property in an elevated inflation environment is an optimal choice. Renting is not.
Real Estate Has Great Tax Benefits
The tax benefits of owning physical real estate are very attractive. The first $250,000 in gains is tax-free per individual. If you’re married and own the property together, then you can receive $500,000 in tax-free gains upon sale.
Then there’s the ability to exchange a property you own for another property via a 1031 Exchange so you don’t have to pay any capital gains taxes.
If you own rental property, you can take non-cash amortization expenses to reduce any rental income taxes. Owning property over the long term is one of the most proven ways to build wealth and generate passive income for the average American.
The value of rental income goes up when interest rates fade. Therefore, I think buying rental properties over the next 12 months is good as interest rates and property prices decline.
Risk: 8, Return: 8, Feasibility: 7, Liquidity: 6, Activity: 6, Taxes: 10. Total Score: 45
Best Passive Investment Rank #2: Real Estate Crowdfunding, REITs, Real Estate ETFs
Owning physical real estate has been my key source for achieving financial freedom. My rental properties generate about $120,000 after expenses a year, or roughly a third of my overall passive income streams. However, now that I’m older and have two young children, I really want to minimize the time I deal with maintenance issues and tenants.
Therefore, I’ve been investing more of my capital in real estate crowdfunding, REITs, and real estate ETFs. Real estate crowdfunding enables individuals to buy a percentage of a commercial real estate project that was once only available to ultra-high net worth individuals or institutional investors.
Owning individual physical real estate is great, but it’s like going all-in on one asset in a particular location with leverage. If the market goes down, your concentrated investment could lose big time if you are forced to sell. Many did during the last financial crisis.
My favorite real estate investing platform is Fundrise. Fundrise manages over $3.2 billion in assets and has over 387,000 clients. Fundrise mainly invests in single-family and multi-family investment properties in the Sunbelt, where valuations are lower and net rental yields are higher.
Work from home and migration to lower-cost areas of the country is here to stay. As a result, I believe Fundrise is investing in the real estate sweet spot for the next several decades.
Unlike other passive investments on the list, with real estate crowdfunding you at least have a physical asset as collateral. Both platforms are free to sign up and explore.
100% Passive Real Estate Income Is So Nice
For those of you who dislike dealing with tenants and maintenance issues, investing in real estate crowdfunding is wonderful.
In mid-2017, I sold my San Francisco rental property for 30X annual gross rent. I reinvested $500,000 of the proceeds in a real estate crowdfunding portfolio. The goal was to take advantage of lower valuations across the country with much higher net rental yields. Not having to deal with maintenance issues and tenant problems has been wonderful.
Coastal city real estate has become too expensive. I expect people and capital to naturally flow towards lower-cost areas of the country, especially post-pandemic. The future of work is remote. Take advantage of a multi-decade demographic shift inland.
Further, the performance of Fundrise’s eREITs has been relatively steady during stock market downturns. Therefore, if there is another crash, Fundrise eREITs should outperform. Real estate is defensive because it becomes more affordable as mortgage rates decline. Investors want real assets that provide shelter and income.
Below are the latest returns from Fundrise compared to public REITs and the S&P 500. Notice the significant outperformance in 2018 and 2022, when bear markets occur. I enjoy investing in private real estate given there is less volatility and potentially outperformance during tough times.
To be able to invest in real estate, but 100% passively is a great combination. You can invest in publicly-traded REITs as well for real estate exposure. However, as we saw in the violent March 2020 stock market downturn, REITs performed even worse.
Risk: 7, Return: 7, Feasibility: 10, Liquidity: 6, Activity: 10, Taxes: 7. Total Score: 47
The Best Passive Investment Rank #1: Dividend Investing
The best passive income investment is dividend-paying stocks. Dividend and value stocks are making a comeback after underperforming growth stocks during the pandemic. After a bear market in stocks in 2022, dividend stocks are offering better value and higher yields.
The “Dividend Aristocrats” are a list of blue-chip companies in the S&P 500 that have demonstrated a consistent increase in dividend payouts over the years. Names such as McDonald’s, P&G, Sherwin-Williams, Caterpillar, Chevron, Coca-Cola, and Sysco Corpare considered some of the best blue-chip dividend stocks. But there are some dogs like AT&T.
Let’s say a company earns $1 a share and pays out 75 cents in the form of a dividend. That’s a 75% dividend payout ratio. Let’s say the next year the company earns $2 a share and pays out $1 in the form of dividends. Although the dividend payout ratio declines to 50%, due to the company wanting to spend more CAPEX on expansion, at least the absolute dividend amount increases.
Dividend stocks tend to be more mature companies that are past their high growth stage. As a result, they are relatively less volatile from a stock context. Utilities, telecoms, and financial sectors tend to make up the majority of dividend-paying companies. In 2022, the S&P 500 dividend yield is about 1.8%.
Tech, Internet, and biotech, on the other hand, tend not to pay any dividends. They are growth stocks that reinvest most of their retained earnings back into their company for further growth. But growth stocks can easily lose investors tremendous value over a short period of time.
Pay Attention To Dividend Yields
To achieve $10,000 in annual passive income with a ~1.8% S&P 500 dividend yield would require $555,000. Instead, you could invest only $154,000 into AT&T stock given its 8% estimated dividend yield. The problem is, AT&T stock could decline much greater in value.
It all depends on your risk tolerance. I give dividend investing a 5 on Return because dividend interest rates are relatively low. Further, the volatility is now relatively high.
One of the easiest ways to get exposure to dividend stocks is to buy ETFs like DVY, VYM, and NOBL or index funds. Alternatively, you can DIY and use Personal Capital’s free financial tools to manage your wealth. The key is to invest consistently over time.
In the long run, it is very hard to outperform any index. Therefore, the key is to pay the lowest fees possible while being mostly invested in index funds. Dividend index investing is great because it is passive and liquid.
However, given dividend rates are low compared to real estate and volatility is high in stocks after a 12+-year bull market, the Return score is lower than in the past. You need a lot more capital to generate passive income with dividend-paying stocks and index funds.
Risk: 6, Return: 5, Feasibility: 10, Liquidity: 9, Activity: 10, Taxes: 8. Total Score: 48
Best Passive Income Investments Review
Based on my new six-factor model for ranking the best passive income investments, the top five passive income investments are:
- Dividend Stocks (100% passive but need a lot more capital)
- Real Estate Crowdfunding, REITs, and Real Estate ETFs (100% passive, higher yields, but less liquidity)
- Creating Your Own Products (huge margins, low startup costs, takes a while to get going)
- Owning Rental Properties (tangible asset that’s more stable, but not as passive)
If you can stomach more volatility, investing in dividend stocks is truly one of the best passive income investments over the long run. If you want less volatility with likely higher yields, invest in real estate crowdfunding, rental properties, and fixed income instead.
There was a time when I loved owning physical real estate the best. It was my favorite way to generate a steady stream of rental income. However, once I became a dad in 2017, I no longer had as much time or energy to manage properties.
Real estate crowdfunding through platforms like Fundrise and CrowdStreet are good solutions for my real estate investment capital. 100% passive income is wonderful. I really like the combination of owning a hard asset that generates income. It’s a more stable way to grow wealth.
For those who are the creative types, starting your own website like this one and creating products online feels extremely rewarding. Some say making $1,000 on your own is like making $5,000 or $10,000 at a job. It just takes a while to get going.
However, blogging would score a 1 in the Activity Score since these posts don’t write themselves. Instead, you really want to create products like a book or a course to sell passively.
Best Passive Income Investments Table
Once again, here are the best passive income investments. All eight passive income investments are appropriate ways for generating income to fund your lifestyle. The right ones depend on your personal preference, understanding of the investments, creativity, and interests.
Build More Passive Income Today
Enthusiasm for work is strongest when you are young and have very little money. After four years of high school, followed by another four years of college, work sounds like an exciting adventure! But after a while, your job can begin to beat you down.
Perhaps a coworker purposefully tries to make your life miserable because they resent your success. Maybe you get passed over for a promotion and a raise because you weren’t vocal enough about your abilities. Maybe you mistakenly thought you worked in a meritocracy. Whatever the case may be, you will eventually tire.
This is why it is important to take action while you still have the energy. With interest rates at rock bottom levels, building passive income will take a lot of effort and patience. Start now!
My Current Passive Income Investments
Below are my latest passive income streams that I’ve been building since 1999. Our passive income enables both my wife and I to be stay-at-home parents to two toung children.
Our goal is to consistently generate over $300,000 in passive income to raise a family in expensive San Francisco or Honolulu through the year 2040. The irony of a bear market is that all of us can actually more easily generate even more passive income!
As you can see from our passive income chart, roughly half of our passive income comes from real estate. Real estate is my favorite asset class to build wealth because it is relatively stable, generates income, and provides utility.
My favorite real estate investing platform is Fundrise, with over $3.2 billion in assets under management and over 387,000 active investors. Fundrise predominantly invests in single-family and multi-family rental properties across the Sunbelt. The Sunbelt has lower valuations, higher cap rates, and strong demographic trends. I like owning a fund where I don’t have to focus on each investment.
With economies opening up, I’m also actively looking for hospitality real estate deals on CrowdStreet. CrowdStreet focuses on real estate opportunities in 18-hour cities where valuations are lower and cap rates are higher. In addition, CrowdStreet has launched a build-to-rent fund to take advantage of the strong rental market.
Saving early and often is no sacrifice at all. Instead, the biggest sacrifice is living a life on someone else’s terms due to a lack of funds. Keep building the best passive income investments so you can one day be free.
Remember, if the amount of money you’re saving and investing doesn’t hurt, you’re not saving and investing enough. At the end of the day, nobody cares more about your money than you.
Now that you know the best passive income investments, it’s time to get cracking! Your future self will thank you.
More Action Items
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The Best Passive Income Investments is a FinancialSamurai.com original post. I have invested in all products mentioned for years.
Just found your site, I love the ranking system and look forward to reading more of the articles.
Hello,
I just invested in my friend’s business, who does flipping. I dont want to invest in all of his projects but I will invest only in those projects where I feel comfortable. I believe this would be considered my passive income. Can anyone please guide me how would this be reported on Tax return for both of us? Since this would be passive income, there wont be 1099 and I am not a partner on his llc so there wont be any K1.
Thanks.
Mike
I think you misunderstand when a 1099 is necessary. There are many different types of income reported via 1099 forms. Almost certainly your friend’s business will need to send you a 1099 to report any payments to you. Lots of passive income is reported on 1099s, including interest income on 1099-INT, dividend income on 1099-DIV, and many different types of income on 1099-MISC, some of which are passive, some active.
I am an active Private Lender, exclusively to Real Estate investors and primarily to flippers/rehabbers, most of whom are operating as a LLC. I have a Note (typically 12%/3 points), first position Mortgage, and personal guarantee. Because my available funds are not 100% busy all of the time, annual ROI is typically 8 to 12%. Borrowers should always issue a 1099-INT to me, although many do not. I send a Form 1098 (Mortgage Interest I received) to them.
I do it as much for the fun of the deals as for the income (I’m “retired”). I lend both with personal funds, and with funds from my Self-Directed Roth IRA which is TAX FREE INCOME!!!
Mike, I’m not a tax advisor but either 1) you made him a loan in which case he needs to Give you a 1099-INT, or you made an equity investment as a partner, whether or not you put it in writing, in which case the partnership should give all partners a K-1. You need to ask your accountant.
Hi Sam, great post as usual. Loved your ranking system. Very useful and easy to understand.
I personally focus on dividend investing, but I am also trying to build up my blog to a point where the passive income is reasonable. I find real estate crowdfunding interesting, but my only gripe is that it has not been around long enough to see how it handles during a recession. I enjoyed the article though! Keep on writing!
Peer-to-Peer Lending (P2P) risk should be much higher than 7. More like a 2 or 3. The reason is:
1. You are lending to people banks have rejected due to risk.
2. Peer-to-Peer Lending (P2P) was born AFTER the 2008-2009 Financial Crisis. Therefore, NO ONE has any way of knowing how P2P market will react in a down stock market, recession, or great depression.
3. If people are have trouble paying their bills in a “good” economy like today, think about what will they do in a “bad” economy like 2008-2009.
Agreed; I diversified $50,000 in P2P with Prosper and had A borrowers defaulting just like the C’s. I spread my risk across those grades as well as the amounts that I would contribute, higher the credit the more money contributed. What should have been between a 15 – 20% return resulted in a $7,000 loss! Granted this was in 2008 – 2010, but there definitely is risk with individuals that the banks won’t loan to.
Investing in life settlements (the secondary life insurance market in which life insurance policies are bought at a discount, premiums paid, and the insurance is paid out upon the death of the original policy holder) is beginning to enter the mainstream of passive investing.
How to invest? Find a firm that buys life insurance policies that also offers an opportunity to invest. The firm will give investors a promissory note payable in a specific number of years at a specific interest rate. The notes I hold are 5 years at
8.75% interest rate.
What firm are you using or do you recommend? I don’t know of any myself.
Sam
You mentioned most of your bond holdings are California munis with yield of 3.6-4.0%. Have you considered myc by Blackrock. It is 40% levered Cali muni investment grade bond fund. It yields 4.7% and you get all the tax benefits. I think it will be a good enhancer to your passive income in that category. Would love to hear your thoughts on it.
#9 Military pension/VA disability. Obviously requires a lot of front end effort in your 20s and/or 30s depending on length of service however once out and receiving it is totally passive with cost of living adjustment included most years. It has changed somewhat with new “blended retirement” plan but even those not staying past first or second enlistments often will get some VA rating. My wife got it on both ends of her service as the Navy paid for med school and then she was rated by VA after seven years active duty.
I bought a house. I chased my dreams and moved to a big city on the other side of the world where I rent. I am living my dream in what I could never describe as work—it’s a hobby— and am now mortgage free and the rental income from that property pays off my rent here. When you truly love what you do it’s not even work, you don’t even want to retire, you have more money to do more interesting projects. I will be using my equity to buy a house in central London in the next 18 months and will keep buying as much property as I can. I couldn’t give a $ht about stocks and shares. I have collegues, friends and family who have lost everything in stocks after being quite wealthy. The ones who succeed, so what if you have 50 million instead of 20? who cares? It’s just a trophy. I save but I spend a lot on things I like. I like nice cars, nice furniture, clothes etc. I really love nice experiences and I love sharing nice experiences with my loved ones. Screw being frugal. What I love most is being able to freely give and provide for family and friends and charities too. Being able to give is a great gift and I’ve watched instant karma happen in my life so many times. It’s truly like magic. The more you give the more you get. Everything we have is on lease from the universe! Life is truly amazing when you immerse yourself fully in your dreams, because—and it sounds cheesy—but DREAMS COME TRUE so you better make them bloody big ones!
This ^^^ I couldn’t agree more with everything Dan said. I want to always have the means to take care of myself and never be a burden on others, and I definitely want to enjoy the finer things in life, but the first priority has to be to enjoy life. To be a positive person and share positive experiences with those you love as well as those who are trying to make this world a better place. I’m a little late getting started because of a career in the military, but I hope to one day make this dream my reality.
I will take whatever cash you want to offer, I am sure it will all come back if you actually, really believe in what you’re saying. Maybe it’s easy to convince others but I believe it is impossible to convince yourself that what you are saying is actually true.
I will take whatever you got because I could easily apply it to charity for my family and loved ones. Whatever secrets you have about however much wealth you have, go ahead and share that those step-oriented instructions with me now, why dont’ya ? Since you leased everything you have from The Universe, I bet The Universe won’t mind you sharing with me.
a little late, but good post. I am curious about creating a product. I’ve often thought about writing an e-book, but it seems you get a lot of traffic/sales via your website. Do you have suggestions for getting it out there minus a website to advertise?
Thanks again for the information, I’m currently an index fund investor, getting closer to the date where I can leave megacorp, and work on passion projects. So far that strategy has worked well, but always interested in other streams of income.
Thanks for posting this I am a real estate investor and quite frankly am thinking of quitting real estate all together due to the hassles of dealing with tenants. I rather put all that money into real estate crowdfunding. I also learned about Mortgage Investment Corporations. Would you recommend that as another form of alternative investment?
It is nice list…
Once said that, I think the most efficentet and cost/value is to make the products (infoproducts, ebooks). The ROI can be huge…
As yo said, if you can get 2500/month per an ebook. Who is willing to spend countless hours trying to pick a few stocks. The only problem is not everybody can get close to this numbers. But even far away from this numbers the better ROI comes making our products.
Anyway, great reading.
Cheers
Or you could do joint ventures/strategic alliances for your business or for other businesses and make residual cash flow for $0 investment.. that’s what I do lol. No money, no risk, little time, 20+ years working from home. Just connect companies and take a %, use the Internet to do it locally or globally, be the intermediary & connect companies…. ;-)
Allen – Would you please care to share more details?
I just found your site & so far I like what I see. I am 50 years old & will be retiring at the end of Jan 2019. I turn 51 the following month. I will have a pension income of $60,000 per year & an additional $5,400 from a survivors benefit. I was able to save $200,000 in a deferred comp program through my employer & wish to know what to do to generate a passive income? I can leave it in the plan which will generate about 3.5% or invest it. My concern is the tax liability of taking out a large sum from that fund & leaving me less to invest. I do have an opportunity to invest in a bar/restaurant with family (my main concern) that currently generates $120,000 annually for an absentee owner. It would be a 3 way partnership if I did that. I do like your idea of creating my own product such a blog with a goal of $12,000 to $18,000 passive income I feel that may be my best option. Any thoughts or advice would be greatly appreciated.
Best way to turn a large pile of money into a smaller one is the restaurant business: Capital AND labor intensive, continuous operating costs that rapidly expire, huge ongoing risks (see Chipotle), and limited growth potential, all for a reputational business with a no moat, and a continuous stream of potential reviewers with unlimited capacity to take a bad outing out on your business’ bottom line. Not what I would call passive income, unless you enjoying washing dishes or working the line or busing tables.
Wow! what a great comparison of passive income sources. I was not expecting that physical real estate would rank second to the lowest. In an emerging market like my place, property flipping is much more preferable than rentals due to its fast value appreciation.
Hello from the UK! Fundrise and Wealthfront are only available to US residents it seems :(. Any other readers from the UK here? The only thing I have managed to do from Sam’s list is getting a fixed rate bond (CBS is having a 5-year fixed rate at 2.01% – not great but the best I could find ). Don’t know if the FIRE movement will ever take off here but would love to trade tips/ideas on how to reach FI and have the freedom to consider alternative rythms to living.
Thanks so much, Sam for keep posting and sharing!
Say a person leveraged his permanent or whole life policy, and had $500,000 to invest for a healthy monthly passive income. How would this newcomer proceed?
Good question! I would like to know as well.
This is a site that I wish I found when I was a lot younger. I have been fairly lucky and smart in that I have saved about what I should have saved by my age; using his chart on another page. (https://www.financialsamurai.com/how-much-should-one-have-in-their-401k-at-different-ages/) I find some comfort in that.
What I find most interesting is the fact that I had never considered options like LendingTree or realityshares for other income sources. Investing in property has been too much of bad luck for people that I know personally, so I am interesting in getting involved in a situation where I would have to be dealing with maintenance issues or tenants. There are services for you to do that, but I had not come across any that didn’t eat most if not all of the earnings. Then again, I live in the NY area. Investing in the midwest would not be reasonably possible for me, directly, but reading about realityshares is something I am going to look into further. That might be a real possibility.
Question: For anyone :)
My current status:
$450000 in a 401k
$45000 in a ROTH
5 rentals:
House #1 Mortgage: $108,000 Value: $226,000 3.50% IR
House #2 Mortgage: $196,000 Value: $340,000 4.00% IR
House #3 Mortgage: $107,000 Value: $250,000 4.75% IR
House #4 Mortgage: $103,000 Value: $230,000 4.75% IR
House #5 Mortgage: $98,000 Value: $220,000 $.75% IR
Liquid cash: $20,000
Age: 48
Net Yearly Income: $126,000
Net-worth Approximately 1.1 million
Question: I’m currently saving 25%. Should I use additional net cash to pay down the mortgages, or put extra money into more after-tax investment vehicles. Dave Ramsey says pay off the homes, but would like input from others. Thanks
Anthony, nice setup! To your question about the rental mortgages, you haven’t said what interest rate you are paying. As a start, if you are paying more than the risk free rate (Treasury bills) which you probably are, then a true apples to apples comparison would be yes, pay off the mortgage. But, if you are comfortable taking more risk, you have other options to invest in which you *hope* will yield you more over the coming years. You also didn’t say whether the rentals generate net income and if so, how much? What is the implied rate of return on the equity you have invested in them? If you pay the mortgages off, you’ll have even more equity tied up, will the extra net income make that worthwhile? Maybe you should use the money to buy more rentals instead, if purchase opportunities still exist in your town. … this is less of an answer than a framework to analyze the decision, hope it is helpful.
I am 30 years old and am retired. Previously, I made a modest salary as an Army officer. I own three duplexes and a quadplex in central Texas (10 rental units in all), and each of the properties provide me with net rental yields in excess of 15%. The last deal is actually an infinite return as my partner paid the down payment in return for a 50/50 split on a property that would otherwise provide a net rental yield of 18%. The above net rental yields also factor in an excellent property management team who manages my properties while I pursue other investment opportunities. To date, I have never interacted with any of my tenants nor have I ever had to personally deal with any maintenance issues.
Hey Sam,
Some time ago you posted thoughts on REITs, and how the returns of 8+% were something you were interested in. I know this is an old post but REITs have a good potential for returns.
Are you still in any of them or have you moved all that into RealtyShares? Im not an accredited investor and I have just reached a nw of 1m. Trying to find ways into real estate without having to deal with landlord type stuff.
Love the blog and all the insights, have really helped my focus more over the past year Ive followed.
Gary
With the new tax law, 20% of REIT income is not taxed. This is a relatively new development.
Any suggestions for crowdfunded real estate besides Realty Trac? They seem to have some high barriers to entry regarding income.
Sure. Fundrise is my favorite for non-accredited investors.
I think I read this post two or three times per month. It’s always really inspiring and keeps me excited to work on my own creative efforts. There’s something very exciting about being guaranteed nothing but having the possibility of the unlimited return for something you create.
I stumbled into your article just now through a Google search. I enjoyed the article and also found the comparative analysis to be enlightening. Very much thanks.
I would be interested in knowing why you did not include county’s tax lien investments. While not feasible in most states, they can be great investments in a few states and the returns are more or less guaranteed by law. How would you rank county tax liens?
Ultimate Passive Income: I can understand why the son is so upset inheriting the remainder of a $30K/Year 99 year lease on land where the leasehold improvements are now three new car dealerships … due to inflation and the current value of the lease!
But when so many turn down leasing one and one-half acre for one Wind Turbine for each 80 acres, that lease certainly does not materially affect the rest of the Farm or Ranch grazing pasture and the lease pays much more than the farm crow or grazing pasture lease, just because some lawyer said the lease was too long: 30 years plus 30 year option = 60 years, and the wind turbine company has selling production/electricity contracts for the next 150 years – which is needed to obtain financing!
No one should turn down wind farming’s ultimate passive income for the next 30 or more years … even 60 years when there is a positive cash flow on the sum total of all base payments when computing inflation for the next 60 years based on the previous 60 years, as long as the next era’s energy resource is not perfected (at which time they would not renew the option for the second 30 years).
Yes, no one should turn down wind farming’s ultimate passive lease income when the lease income also includes rate increases, technology increases all along and a big one at 25 years when they change out the wind turbine, blades and head. (Pensacola dam changed out their turbine(s) and got a 17% technology increase.)
Therefore, who cares how long any ultimate passive wind farming lease is when you do not have to do anything except sign the lease and have a bank or credit union account for the wind farming cash flows?
Who cares, especially when very conservatively, the ultimate passive income includes a six digit or more base lease, plus an estimated additional six digits or more for rate increases and another six digits for more for various smaller and one bigger technology increase at 25 years. All four (base, rate, smaller and mega technology increases) combined, certainly could yield much more depending upon inflation, rate increases and technology increases?
The base lease could be compared to a temporary long term quasi common stock dividend?
And the rate and technology increases could increase the above to a temporary long term quasi preferred stock? Not just a lawyer’s opinion: the lease is too long?
When you follow the absolutely essential vital empirical prima facie forensic evidence and related cold, hard facts to discern the truth for ourselves:
The long term 30 year lease with an additional 30 year lease may be too short for your lifetime, and certainly may be too short for your and future generations lifetimes!
So who cares how long the lease is, especially when Murphy’s Law and its corollaries are funded: to remove the Wind Turbines when they become obsolete due to the next era’s energy resource being perfected, damages during construction, etc.
At this point in the industry, additional attorney’s and other professional opinions are also less valuable when there have been hundreds and thousands of attorneys and other professionals opinions from both sides that have crafted the lease contract!
It never occurred to the lawyers or other professionals that they should suggest or insist on any improvements in the systems (that complete the plans). Franz Kafka, “The Trial.”
This world is a dangerous place to live, not because of the good people that often act in irrational and/or criminally wrongdoing ways within the confines of their individual minds, core or enterprise groups, but because of the good people that don’t do anything about it (like reveal the truth through education like Financial Samauri is doing!). Albert Einstein and Art Kleiner’s “Who Really Matters.”
Therefore, when considering Wind Farming, consult a Certified Public Accountant (CPA), CCIM and other Financial Consultants too, or you may not receive the best financial advice to build long term multi streams of ultimate and other passive income for your and future generation’s financial futures!
Excellent, excellent, excellent article yet again.
Many thanks Samurai, for inspiring so many of us on a daily basis. I truly appreciate the time that you give to pass on your wisdom, and I can only hope to emulate even 50% of your inspiration as time progresses.
An enchanted reader and writer,
Steven, Money Marathon.
This is an amaaazing list! It’s so good to see just how many options there are for passive income generation these days. Where to start!
I enjoyed your summary and found the comparative analysis to be enlightening. Thanks for this.
But I do want to clarify some points relating to private equity.
First: I understand why you would say that such investments are restricted to only accredited investors, because generally, that’s true. There are means, under federal securities regulations and Blue Sky laws in each state, to sell interests to non-accredited investors – but usually those means are so heavily regulated and involve disclosures so similar to cumbersome registration requirements that it is not worth it for the seller to offer to non-accredited investors.
Secondly – and this is just quibbling – I’d change that risk score. The risk of private equity is incredibly high and should be considerably riskier than bonds! You are providing a typically very large amount of capital to one business that you agree to have no control over, and the success or failure of that business over a locked, predefined term determines your return. And in the few deals I’ve negotiated for clients, my experience has been that there are often management fees, performance fees, etc. that may cut into your potential gains, anyway. You’re putting a lot of eggs in one basket, and promising an omelet or two to the management no matter what. You really need to be confident that you found the next Uber before you take this giant risk!
Wait… in calculating the total score for each investment type, you’re _adding_ the risk metric. This means you rank riskier investments higher. Should you subtract the risk score? Or reverse the scale such that 1 is most risky and 10 is least risky?
The less risky the higher the score.
Thank you for the article. I will tell you that RealtyShares requires you to be an accredited investor. I wanted to look at the properties and they require you to sign up before you can. During the sign-up, they ask if you are accredited and if not, you can’t go further. So, I guess the feasibility on that needs to change to a 4.
Hi Matthew,
You can still click yes and look if you want. It’s not like the internet police is going to pop out and punish you for believing that you one day may become accredited. :)
In all my years of investing, I’ve never heard of the government or a financial institution going after someone who wasn’t really an accredited investor. The key is to learn and get comfortable with each investment BEFORE making one.
Regards,
Sam