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It’s possible to work less and make more, and passive income can help you do that. To earn passive income, you generally must make an upfront investment — either in the form of money or time. But once all the pieces are in place, you usually have little to no ongoing work required. That means you can sit back and relax while the money flows. It won’t necessarily be easy, but these passive income streams are some of the best ways to get started.
1. Dividend stocks
The concept of dividend stocks is simple: you invest in a company’s stock, and in turn, that company rewards you with regular dividend payments. Dividends are typically on a quarterly or semiannual schedule, but some dividend stocks pay monthly.
Dividend stocks usually pay a yield that might seem small, such as 3 percent. But the best dividend stocks increase their payouts each year, and the best of this group is called dividend aristocrats. It’s usually better for investors to look for a company with a track record of increasing dividends than to chase high yields, since a stock’s high yield may be a sign that investors believe the yield is unsustainable. Other positive signs include a company that is increasing revenues and generating consistently positive cash flow.
Plus, many dividend stocks receive preferential tax treatment.
2. REITs/real estate
Real estate is a good investment because this industry will never go away. Real estate can generate significant cash flow, and owners can also enjoy the significant tax shield from a property’s depreciation. In addition, real estate tends to have a weak correlation with the stock market, meaning that it can help investors diversify their risk.
Of course, real estate isn’t always a passive investment. Some properties can need significant work, and some tenants require more attention than others. However, real estate can still be mostly passive. One way to make the property more of a passive activity is to hire a property manager to oversee the day-to-day operations. Property managers charge a fee, but they allow you to earn a return without a big investment of your time.
Alternatively, you can invest in a real estate investment trust (REIT), which allows you to invest a diversified portfolio of real estate investments. None of the management responsibilities will fall to you as the investor. Instead, REITs pool investor funds to buy and manage properties such as shopping centers, office buildings, apartment complexes. REITs regularly pay investors with dividends, similar to dividend stocks.
3. Index funds
Another way to invest passively is with index funds. These investments are a mutual fund or exchange-traded fund (ETF) that aim to mirror the performance of an index of stocks or bonds. For instance, a stock index fund might aim to match the performance of the S&P 500, a collection of about 500 of America’s top companies. Instead of buying stocks in hundreds of companies, you can simply buy shares in an S&P 500 index fund.
Index funds provide passive income in the form of dividends and can generate substantial wealth over time. The S&P 500 has risen about 10 percent annually on average over long periods. Index funds tend to have lower fees, or expense ratios, than actively managed mutual funds.
4. Bonds and bond funds
Bonds are an investment that allow investors to earn passive income. Typically, companies and governments issue bonds to help fund their operations, and they pay interest to investors in return. Bonds pay investors in regular intervals, usually twice per year. A bond has a defined lifetime, which is called its maturity. If you hold the bond until maturity, you will receive the face value of the bond back as well as its interest payments.
Another benefit of bonds is their relative stability. They tend to be safer investments than stocks, so financial advisors often recommend them to help reduce a portfolio’s volatility. The other side of this coin is that they tend to have lower returns than stocks in the long run. However, their lower volatility can be beneficial to investors, especially those nearing retirement.
5. High-yield savings accounts and CDs
If you want to earn some passive income with minimal risk, one way to do that is with a high-yield savings account at an online bank. Interest on these accounts is usually paid monthly. While rates can fluctuate often, rates at online banks are usually much higher than the national average. In addition, these accounts are usually FDIC-insured up to $250,000, making them a safe place to keep your cash.
Alternatively, you can store your money in a certificate of deposit (CD). These accounts may pay rates even higher than high-yield savings accounts. However, they require you to keep your money in the account for a certain time, anywhere from a few months to several years. If you want to access your money sooner, you will have to pay penalties. Thus, CDs are less suitable for short-term savings. To find the best CD rates, you’ll want to look nationally rather than going with just a bank in your local area.
6. Peer-to-peer lending
Another way to earn passive income is with peer-to-peer lending. With this investment, you lend money to businesses or individuals through online platforms. In return, they will pay you interest over time. Generally, these borrowers are unable or unwilling to use traditional financing.
This avenue can be riskier than other passive streams, but if you are willing to accept more risk, you can earn a higher return. Just be sure not to invest money you can’t lose.
The idea of passive income can be attractive, but it’s vital to carefully examine any investment opportunity you have to understand the risks and potential returns. What may seem like a great opportunity could blow a hole in your savings, setting you farther back on your path to wealth.
Editorial Disclaimer: All investors are advised to conduct their own independent research into investment strategies before making an investment decision. In addition, investors are advised that past investment product performance is no guarantee of future price appreciation.