Hourly Disconnect

A setting straight of the record: Passive Income is rarely passive. You have to work for it. I was thinking of this after yesterday’s post, pondering just how “passive” one is when you’re saving or being entrepreneurial. Not very. So.

My definition of Passive Income is money you receive not directly related to the hourly or daily work you applied to create that income. When you have a paid job, you work hourly, or daily or yearly for your wages or salary. You will receive the money for a specific duty or activity, a narrow range of clearly defined functions. Even if you are a CEO of a company, you are still expected to complete recognized, agreed-upon tasks. If you don’t do them, you’re fired.

Passive Income is about creating the assets that create the money. Those assets might be dividend-paying stocks you own, or you devise an app, or it might be a work of art – music, a book, video – for which people pay you. You’re putting stuff into the better side of your balance sheet in the anticipation that money will find its way to them, and so to you.

Clearly there’s nothing passive about any of this. When you are in the process of writing a book there is no cheque waiting at the end of the month. But you might find a royalty cheque in your mailbox for each of the subsequent thirty years. At that point it’s passive; not when you’re plugging away day after day. It’s income displacement to the future, if you like.

There’s the difference. Passive Income might even mean MORE work than you’d otherwise apply to a job. But you are working towards dependence on your own accumulated assets, not the largesse of an employer.

And the big, underplayed upside is that there is no way you can be fired. Yay.

Life’s Buffetts

Warren Buffett’s secret isn’t a secret. His accumulation of wealth comes down to this simple set of principles.

1. Create a regular income, preferably from multiple streams.

2. Spend less than the amount you make from 1, above.

3. Invest the difference between 1. and 2., above, in income-producing assets.

I know, this is childishly simple. Buffett’s income actually came from his insurance company businesses, mostly GEICO. The big difference between insurance income and our income is…

4. Ensure that the time between you receiving your income and paying it out is as long as possible.

When an insurance company takes your premium, they often have many months or years between that time and when they must pay out claims. If your claims are less than the premium you accrue, and there is time between the two events, you end up with an enormous amount of investable money.

Buffett calls this “the float” and it made him rich. Rich beyond understanding.

The point is that even if we don’t own an insurance company, the principles remain. Spend less than you earn. Diversify into passive or recurrent income streams. Allow compounding to work. Be persistent.