I’ve never met an income stream I didn’t like. Whether it’s getting paid at work, generating side hustle income from home or collecting passive income in my sleep, it all gets me one step closer to financial independence. There are pros and cons to both forms of income, but they are two sides of the same shiny gold coin.
When I decided I was going to commit to side hustles as a regular income stream I wanted to make sure I had a plan in place for the profits. I didn’t want an ounce of this effort going to waste.
For a professional already making hundreds of thousands of dollars a year to begin side hustling for cash he doesn’t need to invest in passive income streams is a very aggressive means to achieving FIRE. That’s exactly what getting P.A.I.D. means- Passive Aggressive Income Design. Aggressively generating side income and converting it into diverse passive income streams is my plan for financial independence.
Let’s look at the pros and cons of both types of income.
Pros of Active Income
High hourly rate– If you are lucky enough to be a physician or another highly compensated professional you know that your time is worth a lot of money. It is very easy to make $1,000 – $2,000 in a single day by picking up extra work.
Self employed tax breaks – Like I discussed in Uncle Sam Loves Side Hustlers, there are a variety of tax breaks for the self-employed. With active income you can Stash Your Cash in a Solo 401(k), Supercharge Savings With a Cash Balance Plan or take advantage of a dozen different deductions to make your tax liability disappear. You can’t use any of these strategies with passive income streams.
Satisfies my industrious drive – I’m a worker. It’s part of who I am. When I was 12 I had a successful lawn mowing business making $200/week. I had a part-time job in college. I work the most shifts in my emergency medicine group. I fantasize about achieving FIRE and working on my own terms but the reality is that I enjoy being productive. If I was on a deserted island I would have organized the coconuts by the second day. There is something emotionally satisfying about getting paid to work that you just don’t get from a dividend check.
Cons of Active Income
It only works when you do – It’s true that I could pick up a shift in the ED or an extra day of chart review and make $1,000 – $2,000. It is also true that if I take the day off or I become disabled my income stream instantly disappears. Active income streams only work when you work.
FICA / Self Employment tax – Although you may be able to avoid the majority of income taxes through business deductions and stuffing retirement accounts, there is no way to avoid Social Security, Medicare or self employment taxes on active income. The IRS will get its cut of your hard-earned money.
You can’t benefit from economies of scale – There is only one of me and only 24 hours in a day. Even if I get creative by Crossing the Streams, there is still a ceiling to how much money I can make in 24 hours.
Pros of Passive Income
Make money in your sleep – When I go on vacation or get sick the paychecks dry up instantly. Meanwhile my dividends and interest keep getting deposited. If I own rental properties the rent checks keep coming in.
Economies of scale – There is no limit to how many mutual fund shares I own or rental properties I can invest in. It doesn’t take any more effort to own 10,000 shares compared to 10 shares. The more passive income streams you own the more money you make.
Special tax treatment – You don’t owe FICA or self employment taxes on passive income. You also may benefit from lower capital gains and qualified dividend tax rates. You can take advantage of depreciation and other real estate tax breaks that aren’t applicable to active income.
Cons of Passive Income
This list is short. The only downside I see to passive income streams is that you need to invest some combination of time and money to get these streams flowing. Yes, collecting rent checks is easy. Coming up with the cash to buy the property isn’t. Buying 100 shares of an index fund requires a click of a mouse. Working to get the money to buy the shares takes more effort. Starting a small business from home may not cost a lot of money but you may spend hundreds of hours on the project before it ever turns a profit. All those lost hours have an opportunity cost. If I spend 500 unreimbursed hours on a side project, that’s more than $100,000 I could have made working. That is an expensive gamble to say the least.
Combine Passive and Active Income to Get P.A.I.D.
Passive Aggressive Income Design is the funnel I use to convert all my side hustle money into passive income streams.
Step 1: Hustle.
Step 2: Maximize all self-employed tax breaks
Step 3: Maximize all available tax deferred retirement accounts
Step 4: Invest all remaining money in low-cost tax efficient index funds and real estate.
Step 5: Repeat until reaching My Morbidly Obese FIRE
Those who fail to plan, plan to fail
Getting P.A.I.D. is what works for me, but it may not work for you. The most important thing is that you have a plan in place for how you are going to generate and invest your money while paying the least taxes and fees as possible. If you don’t have a written investment policy statement, today is the day to make one.