Do You Know the Difference between Residual Income and Passive Income?
For different types of income, there is often a great deal of confusion regarding residual income and passive income. Many people think these two types of income are the same thing. There is one huge difference between the two, and it is important to know what that major difference is.
Passive Income vs. Residual Income
What is Residual Income?
Residual income is money earned over a long period of time. For example, a used car dealership that offers in-house financing, often advertised as “buy here, pay here”, is setting up a stream of residual income each time they finance a car for a customer. The dealer did the work once – obtaining the car, putting the car on his lot, and making the sale – and he will get income from that work for the length of the contract.
An affiliate marketer who sells the services of a web hosting service is another example of residual income. The affiliate works to promote the web hosting service, and when a customer orders web hosting through the affiliates link, he or she gets a percentage of the initial sale, and a percentage of all the future payments that customer makes to the web hosting company to host their website. That residual income continues until the customer cancels their web hosting account.
While the car dealership and web hosting companies are forms of residual income that may eventually stop, there are also different types of work that can produce residual income forever. A writer can write and publish a novel to set up residual income that will continue throughout his or her lifetime in the form of royalty payments. When the author dies, his or her heirs continue to receive these royalties, but at that point, the royalty payments become passive income.
What is Passive Income?
Passive income is income you do not have to work for. Instead, you take a single action to jump-start this type of income. Sometimes you do not have to take any action at all. Such as receiving royalty payments from sales of a novel a deceased relative wrote, simply because you are their legal heir.
Types of actions that may produce residual income, doing nothing that might be deemed as “work”, include investing in mutual funds or buying rental property. You would receive passive income in the form of dividends if you invested in a mutual fund, or passive income in the form of rental payments if you purchased rental property.
Passive income is not income you work for. You may have to take more action to start some streams of passive income than you would for others. The heir of the author took no action at all. The person who invested in a mutual fund had to either call his broker or visit his bank. The person who bought rental property had to locate the property, purchase the property, and then take steps to find someone to rent the property from him.
Like residual income, some streams of passive income last throughout your lifetime. Such as the book royalties paid to an heir. Some streams end at some point, such as when the investor pulls his investment out of the mutual fund. Some forms of passive income streams will start, stop, and then start again. If the rental properties tenant stops using the rental property, the passive income stops until a new renter signs a lease.
The difference between residual income and passive income is that you have to work for residual income to start. You do not have to actually work for passive income to start. Another difference is residual income can become passive income. Passive income can never become residual.
Other than those two differences, these two forms of income are very much alike. The money is the same shade of green whether it is passive or residual income. It is just a matter of whether you had to work for the money or not.