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Are Rentals Passive Income?

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Ah, passive income. The thought of earning money while you sleep is a tantalizing dream. Most of us would love to have more money, without having to sacrifice time, which is something that passive income streams can offer.

But while passive income is a goal for many people, creating passive income streams can be challenging. Where do you start? And which option’s best? 

One popular form of passive income is rental properties. You buy them, find a tenant, and wait for the rent to roll in each month. You don’t have to lift a finger and you can earn money while you sleep. It’s always smooth sailing and a perfect recipe for guaranteed success. Right?

As any investor can tell you though, in order for rental property to be truly passive, you’ll need to ensure that your properties are generating income, and crucially, not creating more work for you at the same time. Rental property certainly can be passive, but only if you’re turning a profit, and able to outsource the work effectively. How can you do this? That’s what we’ll be covering in this article.

Passive Versus Active Income 

First off, let’s take a look at the difference between passive and active income.

  • Active Income 

Active income is essentially anything you have to be actively working for. Wages, tips, and commission are considered active income since you are consistently working towards earning it. Active income also usually takes up a great deal of your time and efforts. Usually, your career or your job would be considered active income.

  • Passive Income

On the flip side, passive income is income that is earned through minimal time and labor. It may require an initial investment of time but after that, it should be largely self-sustaining. Passive income includes earnings from a limited partnership, stocks and shares, rental income, or another similar pursuit.

Benefits of Passive Income 

The benefits of passive income are fairly obvious: more money for less time. But let’s quickly break down some of the benefits that come along with passive income now.

  • Helps to Free Up Your Time

Passive income gives you the ability to free up your schedule and makes it easier for you to achieve your goals. When you have passive income coming in, you are able to relax a bit and free yourself up from the day-to-day grind of an 8-5 job. You will find yourself with the time and money to reach your goals and dreams that may have been on the back burner before. 

  • Gives You Financial Stability and Security 

Passive income also gives you financial stability. When you don’t have to live paycheck to paycheck, you’ll be able to relax. Enough streams of passive income can set you up for financial freedom, where you won’t have to worry about money anymore. You’ll have enough to live on, and will be able to do those things that you enjoy.

  • Helps to Reduce Stress About the Future

When you are only getting active income, there is always that fear and stress about the future. What if you are unable to keep your job? What happens if you can’t find work? All the planning for the future often hangs in the balance of holding a steady job. However, having a steady passive income coming in will eliminate that pressure. Knowing you will have money coming in, and that you and your loved ones will be provided for, regardless of whether you work or not, is tremendously freeing. 

  • Gives You Tremendous Flexibility 

Passive income also offers you flexibility. You won’t be held down to one location or position. Instead, you have the freedom to live where you want, when you want. 

  • An Extra Stream of Income

Of course, passive income doesn’t mean that you have to end your career. It could supplement your earnings. If you enjoy what you’re doing, then keep your current job, just use the passive income as an additional income stream. This means that you get to do what you want while generating extra income.  

  • Opens the Door for Early Retirement 

Another benefit of passive income is that it brings early retirement into the realm of possibility. Whether or not this is something you may have considered before, it’s an option when you have steady and consistent income coming in.

Looking for more reasons to invest in rental properties? Check out: 8 Reasons to Keep Your Property

Earning Passive Income With Rental Properties

“If you don’t find a way to make money while you sleep, you will work until you die.” –Warren Buffet

Rental properties are considered one of the classic forms of passive income. However, not all rental properties are passive. The truth is, it depends largely on three things: 

  1. The property itself. That is, the market it’s in, and how much cash flow it’s generating after expenses. 
  2. It also depends on leverage, how well the property’s financed. 
  3. Finally, it depends on how you’re managing your properties. Whether you’re overseeing them yourself, or whether you’ve decided to outsource. The great thing about outsourcing is that it not only frees you up to do other things (passive) it also allows you to invest in even more properties –something that would be difficult to do on your own. 

Rental income has long been a form of passive income. But owning just one property is unlikely to generate the returns that you need to reach your goals of financial freedom. Ideally, you’re going to want to find a way to invest in multiple properties. Scaling your portfolio of property investments to five, ten, or more –means that you’ll be able to reach your big-picture goals, generating enough income to live off of, or to finance the future lifestyle that you’d like. It’ll take time doing the legwork, finding properties, investing in them, rolling the proceeds into additional property, and finding a way to outsource the management. But after you’ve done that, you’ll be able to step out of the equation, and that’s when your income will be truly passive. Plus, scouting out great deals and arranging creative financing can be exciting. It’s fun to watch your property empire grow!

So how can you ensure that you’ll be setting yourself up for passive income, and not just creating another job for yourself? That’s a very good question.

As C.J. McGlown, software engineer and self-made millionaire, puts it, you have two options when going into real estate. “Do you want to be an investor, or do you want this to be your occupation?” For McGlown, the choice was simple: he didn’t want it to be his full-time job.

“My true passion is technology,” McGlown told Business Insider. “I use real estate as a wealth-generation strategy only.”

Currently, he spends roughly three hours each month doing work for his rental. However, it brings in thousands of dollars each year. That’s passive income.  

Mistakes to Avoid With Passive Income Rental Properties 

Okay, so we know that the goal of passive income is to generate a profit while outsourcing the work. How can you get started?

In order to create passive rental income, you’re going to want to start by setting goals and having an investment strategy in place from the start, one that outlines exactly the type of returns that you’d like to get with your investments. Then, you’ll want to find a good, cash-flowing property (ideally, in a healthy, growing market). Keep in mind that how you finance the property can make a big difference in your returns as well. Finally, you’ll want to ensure that you have a plan in place for management. 

With this in mind, here are a few mistakes to avoid on your way to building your passive income. 

  • Going Into It Without Clear Goals

Like we mentioned above, having clear goals from the start is important. Start by identifying how much income you’d like to be generating each month, and then create a plan that’ll help you to get there. Be specific. How many properties will you need in order to reach this goal? What type of returns should they be generating? 8%? 12%? Will you be using the income to pay for your day-to-day expenses, or do you plan to reinvest your passive income

You’ll also want to consider what type of returns you’re looking for –cash flow, long-term appreciation, both? Then look for a market with property that’ll offer you the returns that you’re looking for. Certain markets, such as many places in the Midwest, tend to offer better cash flow. Other markets, you’ll find, tend to experience better appreciation, but don’t produce as much cash flow.

Tip: Have a property in mind? Or, maybe you’re trying to identify emerging markets? If so, be sure to head over to the Renters Warehouse Research Center. Find information on housing appreciation, employment prospects, population growth –and more, allowing you to spot a market that’s worth investing in.

  • Forgetting That Cash Flow is King

When it comes to rental properties and passive income, cash flow is king. While appreciation is good, and has helped many an investor to grow their wealth, it’s important to remember that with passive rental property, cash flow is vital. When you find a property, it is important to determine that you will have enough cash flow to meet your goals, after you’ve subtracted your costs. Common expenses include mortgage interest, professional fees, maintenance, repairs, and taxes. 

  • Ignoring Leverage

Sure, some investors choose to go it alone and pay all-cash for properties –and that can be a good strategy for some people. On the flip side, however, are investors –like C.J. McGlown, who understand that leverage can be a good tool for scaling your property portfolio a lot faster. Leverage means using other people’s money (the bank’s) to grow your returns faster than you could on your own. This means that instead of just generating returns on the portion that you’d be able to contribute, you can use the bank’s money to increase your investment –and generate returns on the full value of the investment, not just the portion that you put in.

  • Not Screening Tenants Properly

The right tenants will make or break the success of your rental property, so it’s important to ensure that you screen your applicants carefully. You’ll want to weed through unqualified candidates to find a qualified tenant who will be able to pay the rent (on time, every time) and follow the terms of the lease. A bad tenant can be costly. Not only does it mean a big loss if they fail to pay rent, or you end up needing to file an eviction, but the downtime in between tenants can add up as well. If you outsource to a property manager, they should have screening policies in place and be experienced at finding excellent tenants. This means qualified tenants in your property, and ideally, less downtime in between tenants as well.

See other real estate investing mistakes to avoid. Read: 10 Costly Mistakes to Avoid When Building Your Portfolio

  • Trying to Do It All Yourself

Sure, some landlords manage their own rentals, but if your goal is passive income, then you’ll want to find a way to effectively outsource the work. Outsourcing to a good property manager will free you up from all of the day-to-day tasks while still giving you control over your investments. What should you look for in a property manager? An excellent property manager will be able to not only save time but can also help you to generate the best returns possible. Look for someone who has a good track record, minimal downtime in between tenants, and who’s able to help you command the best price possible for your rental.

It’s a good idea to try to budget property management costs from the start. Even if you plan to oversee your property yourself when you’re first getting started, having room in the budget will ensure that you’ll still be generating a profit when you do decide to outsource.

Rental properties can be time-consuming –but they don’t HAVE to be. With the right approach, you can set yourself and your portfolio up for success from day one, allowing you to slowly but surely grow your passive income streams. Rental property can be your ticket to financial freedom. See how you can get started today.

Are you looking to outsource YOUR property management? Reach out today for your FREE Rental Price Analysis. See how much you could be getting for your property, and find out how stress-free rental property can be with a good property manager.

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