Passive Income

In an earlier post on personal finance where I touched on the issue of passive income some questions came up.

One question was about side hustles and whether they can be viewed as passive income. My advice to an employed person would be to save and invest in passive income generating assets rather than engage in side hustles.

Most employees who engage in side hustles end up losing their money. There are very few profitable businesses if any that can be managed passively successfully.

It is also better for business owners to invest in passive income generating assets instead of diversifying into other businesses or always ploughing back profits. Even a business can collapse so it is better to separate personal finances from business finances.

If your passive income exceeds your essential spending then you have to a great extent attained financial freedom. The only issue will be the quality of that freedom. The more your passive income the greater your financial freedom.

What then is passive income? Passive income is any earnings you get without needing to be actively engaged in the earning process. Of course we are talking about honest earnings.

Note things like investing in assets for capital gains such as trading shares, crypto-currency and even forex trading do not qualify as passive income because you will need to be actively engaged. However such capital gains provide good opportunities to grow your passive income generating asset base. Part time work is also not a passive income source.

Passive income can be mainly in form of rental income, dividend earnings and interest. One can also earn passive income from royalties and pension funds. We will discuss each of these separately below;

  1. Rental income comes from investment in property. One can do this either directly or indirectly. You can buy land and build rental premises. You can also purchase already built property and let it out.

You can also get rental income indirectly from investments such as Income Real Estate Investment Trust (I-REIT). “An income-REIT is a real estate investment scheme which owns and manages income generating real estate for the benefit of its investors” Stanlib. An example of an I-REIT is the Stanlib Fahari I-REIT which is listed at the NSE.

  1. Dividend income comes from investment in shares which can be listed in a stock market or not. Owning shares of a company entitles you to a portion of its profits whenever dividends are declared.

One can easily invest in shares through the Nairobi Securities Exchange by opening a trading account with any of the listed stockbrokers. You can do this from the comfort of your mobile phone. However, investing directly in shares is a risky affair and one needs to understand how the markets work.

One can invest indirectly in shares through unit trusts by buying into an Equity Fund or Balanced Fund. A unit trust pools funds from several investors and professionally invests it in income earning assets on behalf of the unit holders. Unit trusts are regulated by the Capital Markets Authority.

  1. Interest income. This involves putting your money in interest earning assets such as bank accounts (savings/fixed deposit) as well as government securities such as Treasury Bills and Bonds.

Interest income can be earned directly or indirectly as well. You can open a bank account from which you earn interest and can also directly buy treasury bills and bonds. Retail investors can even take part in government securities through the M-Akiba Bond which pays 10% tax free interest annually.

Interest income can also be earned indirectly by investing in unit trusts which invest in Money Market Fund. This involves pooling funds which are professionally invested in interest earning accounts and government securities by professionals.

All the above are ways in which one can earn passive income. Such income can be very helpful during times of financial stress such as job loss or business collapse.

It is always good to invest in different types of passive income generating assets because of risk management. You can start with one asset type and then use the income from it to invest in other asset types. For instance some people begin with buying shares before getting into real estate.

The best time to invest in passive income generating assets was yesterday; the next best time is today. I welcome any relevant questions.

(Ephraim Njega)