Three Income Types
The key to becoming wealthy is the ability to convert earned income into passive income and/or portfolio income as quickly as possible. Financial freedom does not have to rely on a paycheck for your standard of living. If you are sick, or want to take a vacation, you will still have money coming to you from your investments.
The earlier you start planning and building your passive income, the earlier you can achieve being financially free. It takes time and effort, especially in the beginning, just like building anything worthwhile does.
Part of learning to become financially free is to begin to understand that there are three different types of income. They are: Earned income, Passive income, and capital gains.
There are the three types of ways to make money, and are very easy to understand.
Earned income is income derived from your job. It is linear in nature. You work for an hour and get paid only one time for that one hour's work, and that's it. Your income stops when you stop working.
Unlike passive income, earned income or linear income requires that you work for your money. You are basically exchanging your time and effort for money. You get paid when you work. The moment you stop working, you don't get paid.
Usually to keep receiving earned income, one must still be "active" within the company or organization. Should they leave or break "policy", you can expect to stop receiving any further earned money. Replacing the mailbox money with a final termination letter and ceasing any more paychecks as the earned income comes to an end.
Passive income is when you work once but continues to get paid over and over again from work you're no longer doing. Passive income, in most cases is income earned from real estate investments or true businesses owned and operated independent of your personal involvement. Investing in or creating true assets that provide passive income for you is your ticket to wealth. To gain financial freedom you need this cash flow from 'Passive Income'.
To put it simply, passive income is income that continues to generate money for you even when you have stopped working. For example, your rental income is a good source of passive income. If you own a house and you rent it out, you will continue to receive your rental income for as long as you have a tenant, regardless of whether you work or not. Similarly, if you invest in unit trusts and it generates dividends for you, the dividends are your passive income. Bank Interest is another common example of passive income.
Passive income is payments that you receive from the assets you have created. These payments usually come monthly, and require little or no work for you to receive them. Some types of assets that produce passive income are rental properties, dividend stocks, and businesses. Assets that produce passive income continue to do so until the asset is liquidated (sold). Passive income is what makes a person rich. If a person has more than enough passive income to cover his or her expenses, that person is rich.
When you buy a stock, and sell it for a higher price, you have made a capital gain. If you buy a house and then later sell it for a profit, you have made a capital gain. If you buy an antique at a low price and then sell it for a nice profit, you have made a capital gain. Capital gains are not passive income. They are a one-time payment that you receive from an investment because your investment has increased in value. Investing for Capital Gains is great because you can keep your money moving, instead of just letting it sit in the bank.
The government loves to tax capital gains, especially if you bought and sold your investment in less than one year. Lets say you buy a stock, and the stock doubles in price during the week so you decide to sell it. You've made a nice capital gain, but the government could take as much as 35% on that capital gain, depending where you are in the income-tax bracket. If you hold onto your investment for a year or more, the government rewards you with a more favorable capital gains tax rate.
Everyone has income, but not everyone maximizes the use of that income. And one myth you can dispose of is "It takes money to make money." Regardless of your income you can begin to acquire assets that return an income every year -- passive income that comes in, rain or shine, whether you work or not. This is money working for you, not you working for money.
Wealth and freedom can, and should, be yours. You have the right to acquire it. The family that is jet-setting around the world, teaching their children about art in Paris and about science on the Amazon, eating out whenever they want to, cruising on yachts, hot-air ballooning over wine country, relaxing on tropical beaches, has no more right to all of that than you. We believe you can have, should have, and will have all your dreams.
Almost everyone who starts his or her own journey to financial freedom begins with earned income. Relying solely on earned income should be temporary. Today in many countries many people rely on earned income alone, and saving most their earned income for many years until they retire. The path to financial freedom requires making the transition from relying on earned income, to passive income.