Passive Income Done Right

This is a guest post by Derek from Creating A Passive Income, a website that is dedicated to hunt out every possible passive income source there is. Be sure to check it out.

Do you often think about how you could create a passive income? Maybe you’re just itching to get out of your job and would love to create a real estate empire, or perhaps a franchise that is run completely by someone other than you. These dreams are all well and good, but you must first have your finances in order before you can pursue opportunities such as these.

You Might Not Be Ready For Passive Income

If you plan on creating passive income through real estate, you’re going to need some big cash down-payments set aside for those ventures, and before you even do that, it would be wise to get yourself completely out of debt.

I would love to buy another property right now. Houses are cheap and there’s a demand for rentals, but I know that taking on two mortgages is not cost effective when considering the interest. What if I wasn’t able to find a tenant for a while? Then I’m stuck paying two mortgages, two insurance premiums, two utility bills, and I would have two yards to upkeep. Not only would it hurt financially, but it would no doubt take up all of my spare time to maintain an empty house.

What to Do Before The Passive Income

My wife and I still owe about $69,000 on our house. While it doesn’t sound like a lot of money (considering some of the mortgages out there), we know that it’s wise to get rid of one loan before taking on another. So, our plan is to pay this mortgage off in the next 3.5 years by paying an additional $1,200 payment each month. This will save us approximately $22,000 in interest payments, and I predict that the housing market will still be extremely affordable (in fact, house prices may even be lower than what they are today) at this point as well. Imagine how fast we could pay for a down-payment on the next house! Heck, why not just buy the next house with cash? We’d get a heck of a deal I’m sure.

When you’re looking at passive income investments that require a large start-up cost, you should strongly consider taking care of all of your existing debts first. If you do not, and you invest heavily in your new venture, you could be looking at financial disaster in a very short time-frame. Dump the debt and deal with cash, and you’ll be ready to soar financially.

Are you currently in a position to invest in your next brilliant idea? How do you plan on building your passive income empire?

21 Responses to Passive Income Done Right

  1. I am still trying to get out of the first hole before I can think of buying another place. On the flip side… things are getting better. I actually believe a passive income is in my future

  2. This is a tricky one. I eliminated all debt except my student loan (17k at 3.5% interest) and my mortgage (3.25% 15 year / 360k). I choose very high cap rate / low price properties. I put up cash then pulled the money out. cost me 30k to buy and fix.. I pulled out 33k. I make 15% a year on property 1.. property 2 is similar. Now if I waited I would not be in the position to buy 4 properties this year. With that said every situation is different. I don’t see this as risky (I have section 8 tenants who pay on time). But once again this is why personal finance is personal.

    So are you not investing because of math reasons or non math related reasons?

    • YFS, it’s not about the math. The math would tell me to go into debt and use the banks money to grow my own through real estate. The reason I’m currently not investing is because of the risk. Let’s say I owe money on my property and my investment property, but can only afford to pay one mortgage each month. All of the sudden my tennant bails on me and is no longer paying. Since I cannot afford two payments, that rental house is now in a position to be taken by the bank. Even if I have the reserves to pay it, I’m still no longer making any money on the property.

      If I flat out owned both properties, the risk would be much less, and I would no longer have big fears about my renters leaving. I can make decisions with a clear conscience and a sound business mind.

  3. I disagree. In 4 years, the housing price could be up again. In certain markets like Northern CA, this will make any real estate investment out of reach. It’s safer to wait, but you could also be letting the opportunity pass you by.

    • What are the odds that the housing market is going to shoot up in value that it did in the past? I’d say slim to none. Most likely, once the prices start to increase again, they’ll do so very slowly. After all, there are still forclosures all over the place!

      Also, it is likely that we’ll pay off our house in less than 4 years because I didn’t put my online income into our plans. At the end of the year, I plan to dump $10,000+ toward the mortgage. I figure we’ll be ready in about 2 (if all goes well).

      Then, instead of borrowing from the bank, I could walk up to our next investment property with a briefcase and offer cash. There are people out there that are getting some crazy deals because they have the cash on hand.

  4. Hi there,
    Great article, couldn’t agree more. I was wondering: hypothetically let us say you pay off your current house and start to build up a pot of money to buy a second home outright, how do you plan to store that money in the mean time? Have you thought about ways in which you could create a medium term passive income vehicle to help you reach your goal even faster?

    • That’s a great quesiton MMRB! I do currently have a checking account that yields 3%, so that would be my first choice (no risk, highly liquid). I haven’t really thought about any other options at this point. I would want to make sure that I kept the money liquid though, just in case that amazing deal came along that I want to make sure I’m ready for.

  5. Your logic is flawless!

    Stop trying to dig a new hole…instead…climb out of the one you’re in already. (I can’t remember who originally wrote/said that)

    Do you think people should be 100% debt free before starting any new ventures or does it depend on the amount of money/resources required to fund the new project?

    • I would definitely suggest that people take care of their debts before starting any high-cost (potentially high-risk) ventures. If, however, they wanted to start a business that only cost $100 to start and had very little maintenance costs, then I would say go for it! After all, it could help take care of that debt.

  6. I remember my mom told me about an investor who bought a home for cash in her neighborhood. Since I wanted to invest in real estate (and still do), that inspired me to aggressively build up my cash savings. Now, I have enough money to buy a house with cash. Not in my local area, but I can definitely pick up something decent in Florida. I have other plans for my liquid cash so I don’t want to by anything now. But I’m hoping real estate investing will be back on the table in a few years. I think there will still be a ton of opportunities for cash buyers.

    • You are definitely doing it right Shawanda! I can’t wait to hear your story about how you bought a house with cash. Be sure to share it with us when you do it!

  7. We are investors by circumstance not specifically choice. We could have chosen to sell our house when we moved from the state, but we were losing money on it and decided to keep it and rent it out. Currently we are losing $300 per month on that investment property – but if we sold it we would have to pay around $50-60K (it’s that much underwater).

    Now, if we bought it NOW, for the $130K it would sell for, our monthly payments (if you were to finance it in full) would be $800-850, meaning every month we would be banking $340. That includes property management fees (I would never not use a property manager. Too risky). That’s pretty decent passive income, especially for no up-front fees (no down payment, closing costs rolled into mortgage).

    • Wow – that is a huge difference. To bad you aren’t buying now. I am trying to get into real estate as soon as I have a large enough down payment.

  8. I am itching to buy real estate to start some passive income. Of course I am still in school and need to buy a property for myself before anything. But I think that my first home I will rent out at least one room. And that will be the start of my real estate venturing. I love the idea of real estate income and can’t wait for a couple years to pass so I can start

  9. I wish our former landlords thought like you! They overextended themselves financially between two properties and their own home, and then the market crashed. They couldn’t even afford basic upkeep, which is why we eventually decided to move out. If they had had the properties paid for, or even bought within their means, they wouldn’t have had the problems they did.

  10. We’ve been saving all year to buy our first rental property. We’ve saved a good bit of money for a down payment, but I’ve decided to keep saving until this summer. I’ve heard too many horror stories of rental owners having to come up with huge amounts of cash for repairs. Just trying to be prepared. 🙂

  11. There are a couple of myths about real estate investing that far too many people believe. First, positive cash flow is not easy, it’s difficult, at least in the beginning as you make repairs and get the place ready for renters.

    The second myth is that you can invest in real estate with little of your own money. When I bought my second rental property the bank decided half way through the process that they wanted a 30% down payment instead of a 20%. Because I had no debt (other than my mortgage) and a sizable cash reserve this was no problem.

    I have two rental properties that are paid for but I didn’t pay cash. I used the real estate bubble to my advantage by refinancing my primary residence and taking out enough cash to pay off the rental property. I did this twice. I also reduced the term of the mortgage from 30 years to 15 years and still lowered my payments. The amount I owed was the same but the interest charges were much less. The other benefit? I could deduct the mortgage interest because it was my primary residence. And, in case you’re wondering, I’m not underwater on my primary residence.

    Good post with realistic advice. My one suggestion is, save the full purchase price if you like but don’t use it all. Get the benefit of someone else paying the mortgage while you still earn interest with the peace of mind that losing a tenant won’t kill you.

  12. Great article. Structuring an operation of Passive Income is how to structure any business or company. That is, there must be a logical relationship between the equity that we are willing to contribute and the level of debt we can assume. This depends on several factors. But what happened to the houses in recent years is instructive. So now there is again an opportunity for incomplete passive in this business. But you need to be well structured. If house prices rise in the following years … should be OK. But what if the houses down in price?. It need not be so bad. If we have a sound financial structure we can continue to buy (at better prices) and still get more Passive Income.