Passive income

What It Means

Passive income has two meanings. (1) In everyday use, it's money that keeps arriving without much ongoing work once it's set up, such as rent from a property or earnings from a business someone else runs. (2) For federal taxes, the IRS uses a narrower idea, income from passive activities: trade or business activities you don't materially participate in, and rental activities in general. The everyday version still usually takes money, time or both to get started.

How It Sounds at Home

• "I want money coming in while I sleep."
• "The rental finally covers its own mortgage."
• "That course promised passive income, and it was a second job."

The Breakdown

A short example. After a coworker talks up "money while you sleep," Kim watches a free webinar selling an online store course for $1,997, in this example. The host shows screenshots of big monthly payouts and says only ten spots are left at that price. Kim's partner asks to wait a week. In that week they search the company's name with the word "complaint," read the FTC's advice on business offers, and decide against buying. Their real passive income is smaller and slower: interestInterest rateThe yearly percentage a lender charges for borrowing money, not counting fees; the APR adds certain fees to show a fuller cost. See more on their emergency savingsEmergency fundMoney set aside only for unplanned costs, like a car repair, a medical bill or a lost paycheck, kept where you can reach it quickly. See more and $150 a month from renting out a garage parking space.

Where it goes wrong. A pitch for passive income tends to skip the upfront cost and the work behind it. According to the FTC, an offer that promises a lot of money while staying vague about what you'd actually do, or how the money would be earned, is a sign of fraud.

What to watch for

• A promise of guaranteed income, or big returns for little work.
• Pressure to pay today, before you can look into the offer or talk it over.
• Success storiesUser storyA short description of something a product should do, written from the point of view of the person who needs it, often in the form "As a, I want, so that." See more and reviews you can't check; the FTC warns they may be fake or not typical.
• A rental's income, which the IRS generally treats as passive for tax purposes, with its own rules on losses.

Good to Know

For taxes, the IRS uses "passive" in a narrow sense. IRS Topic 425 says passive activities are trade or business activities you don't materially participate in, meaning you aren't involved on a regular, continuous and substantial basis, and rental activities in general, even if you're heavily involved, with an exception for qualifying real estate professionals. Losses and credits from passive activities are limited, and IRS Publication 925 explains how. If an offer promises passive income, the FTC's consumer advice suggests searching the company's name with words like "review," "scam" or "complaint," and it takes reports of suspected scams at ReportFraud.ftc.gov.

Related Terms and Categories

• Side hustle

  Paid work done alongside a main job or other commitments, such as freelancing, delivery driving or selling goods; the IRS treats the income as taxable.

• Financial independence

  Having enough savings, investments or other income to cover your living costs without needing a paycheck from a job.

• Compound interest

  Interest paid on your original amount and on the interest it has already earned, so each year's interest is a little bigger than the last.

• Net worth

  What you own minus what you owe: the value of your savings, investments, home and other assets, less your mortgage, loans and card balances.

• Assets

  Things you own that are worth money, such as cash, investments, a home or a car. Your assets minus your debts is your net worth.

• High-yield savings account

  A savings account paying a variable interest rate that's generally higher than a traditional savings account's, often offered by online banks.

Household money and budgeting