How much residual income do you bring in every month? Do you even know what it means? Many times terms like passive income, residual income, and even recurring income are used interchangeably. While it can be easy to mistake one term for the other, there are actually some big differences in their meanings.
Let’s take a closer look at the definition.
Residual Income Definition
According to Investopedia, residual income is the “… amount of income that an individual has after all personal debts, including mortgage, have been paid. This calculation is usually made on a monthly basis, after the monthly bills and debts are paid. Also, when a mortgage has been paid off in its entirety, the income that individual had been putting toward the mortgage becomes residual income.”
Residual Opportunities
There are plenty of residual opportunities that can be started if you put your mind to it. One popular example that comes to mind is earning income from a rental property. While not necessarily passive, a rental property has the potential to bring in revenue each month as long as the unit has a paying tenant.
As long as the rent payment that you charge every month to your tenant is greater than the mortgage payment, taxes, and any other charges – this can be consider residual income. The amount that is residual is the portion that is leftover once all debts are paid. This is also sometimes referred to as positive cash flow.
Residual Income Equation
The basic equation for calculating ones residual income (RI) is quite simple. It is the income generated minus the expenses required to keep it running. In the case of the rental property, there are plenty of expenses that are required to keep the income coming in. The owner must pay the monthly mortgage (unless the home is paid off), taxes, insurance, home owners association fees, and maintenance costs. Anything that is leftover is the residual which is hopefully positive.
Here is a basic equation that can be used for any type of residual earning income stream -
RI = Operating Income – Expenses
If we applied this equation to our rental property example, we may find something like this -
Operating Income
- Monthly Rent – $1,750
Monthly Expenses
- Mortgage – $1,250
- Taxes – $333.33
- HOA Dues – $55
- Insurance – $50
RI = $1,750 – ($1,688.33) or $61.67
This hypothetical example above is actually based on numbers from the current home that my family lives in. Our monthly expenses run around $1,688.33 and include taxes, mortgage, HOA dues, and insurance. If we were to rent out our home for $1,750 per month to a tenant, then we would be earning $61.67 in residual income every month.
Please note the example above does not leave much room for any additional maintenance costs or repairs. If I were to rent out my home, I would need to determine if the monthly rent could support any future expenses on the home and adjust accordingly.
Passive Income Opportunities
Building residual income sounds like a wonderful idea. All you need to do now is go out and start up a bunch of smaller income sources that can begin producing monthly income. Unfortunately, what residual income does not account for is your time. If I were to rent my home, chances are I would need to spend several hours each month working to maintain my residual income.
One opportunity to reduce the amount of time and effort that you spend on these types of situations is to focus on building passive income streams instead. While there may not be any income stream that is 100% passive, there are many things you can do to reduce your time and effort while maintaining that monthly cash flow.
In the rental example we used earlier, we could hire a management company to handle all of the maintenance and other tasks each month. This would save time and effort on our part in return for a reduction in the amount of residual income that is earned. In some cases, hiring a management company or outsourcing tasks may not payoff, but it may be worth looking into if you want to build passive income streams.
Final Thoughts
Earning residual income is an important part of protecting your personal finances. No matter how passive or hands-off a revenue source can be, it is critical to diversify them. Relying solely on your job for money every month and living paycheck to paycheck is very risky. If you find yourself in this type of situation, it may be time to start thinking about ways you can begin building additional income streams that can help push you towards finding financial freedom!
What type of residual opportunities are you currently generating monthly revenue from?
Related posts:
- 5 Places to Earn Residual Income Online
- Diversify Your Portfolio With Real Estate
- Create Passive Income by Writing for eHow
- How To Earn Passive Income At Home
- What the State of Your Finances Reveals About Your Personality
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John,
You’re right about the time factor. They’re all types of hidden costs that you have to look out for, main one being time. When it comes out to renting out property, I think there’s a lot involved and unless you’re making $500-$1k doing it, don’t bother. Maybe that’s a bit naiive, but that involves screening applicants, take carre of broken appliances, etc.
I wrote about diverysifying and pros and cons of various passive income streams for today’s post
@Moon – I have always had a strong interest in collecting a few rental properties to begin earning income. I would never want to participate in maintenance and upkeep of the properties and instead would hire that type of work out to a management company.
I like writing for residual income at different revenue sites around the web.I think of each article as a tiny little rental property.
@Julie – Writing on sites like eHow is a very popular choice. The nice thing about these types of platforms is that they don’t charge any rent, so all your income can be considered residual!
John, thanks for writing about a subject I really enjoy. I have a rental property with one business partner, and boy! Did I learn about all the costs involved! Like Warren Buffet says, you really want to know the field you invest in, so if anyone is considering real estate, I would say to study under a mentor for a year before investing a dime. Having said that, if you know what you are doing, real estate is a great asset. Not only is there cash flow from the rental, but the tenant is paying down the mortgage and building equity for you.
@Stephen – I appreciate your kind words. I have always wanted to own rental properties, but have zero experience in them. Everything I have heard is not really very good to be honest. But I think a lot of that comes with the inexperience of the landlords.