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Nov 12, 20206 min read

Understanding Passive Income and its Importance.

He who makes $25,000 annually through passive income is more enviable than he who earns $100,000 annually through a salary.

- Mokokoma Mokhonoana

Money has the power to buy you things. But a much bigger power of money is in generating more money for you. Those who are able to manifest the latter, are never short of it.

- Manoj Arora, From the Rat Race to Financial Freedom

The Pandemic has been a boon for us with regards to adapting to new and productive ways for our work, the importance of physical health, mental health, hygiene, and quality of life. Also, it has been great at imparting the importance of maintaining liquidity and having alternative sources of income. We have learned financial lessons during this Pandemic which we may have missed out on if things were normal as they were before the Pandemic. We learned that our living expenses can be quite lesser if we skim out the luxury or the wants part of our life and stick to what is important for us to survive. Of course, there have to be some spendings after your wants, I'm not suggesting you to take the soul out of your life. (at least that what we feel what our wants are)

So, If you might have tried to find alternative sources of income while sitting in your homes doing nothing other than household chores (I'm fed up) and you may or may not have come across some of these words:

The rat race, Passive Income, break the circle, alternate income, make money with your money, let your money work for you, etc.

But what actually are these?

What is passive income?

What is rat race?

How can I make money while I sleep?

Why is Passive Income necessary?

Well, today we are going to discuss exactly the same i.e. understanding passive income, and also, later on, I have got a personal experience lined up for you that I have used as an analogy to make you understand the concept of Passive Income and its importance.

What is Passive Income?

Before jumping to that let us get our heads cleared on what an Active Income is:

Active Income is an income that you generate by providing a service or performing an activity from which you get rewarded or compensated with wages, tips, salary, commission, profit, or bonus. There is material participation in generating active Income and it requires your direct attention.

Some of the examples are:

A Lawyer getting fees in return for service provided.

A Java Programmer receiving a monthly salary for working.

So what is passive income?

Passive Income is an income that you generate by doing little to nothing - like literally nothing. This is what earning while sleeping is called, earning passive income. Passive income doesn't require material participation or your direct attention to generating income and it can grow on its own. Basically, you need to make little to no effort in earning it. Some examples of Passive Income are:

Rental Income

Interest Income

Dividend Income

A business that doesn't require your attention.

Passive Income Sources — Passive Income Examples

Then, what is Rat Race?

Rat Race is a constant activity of chasing money so that you can make your ends meet. Rat Race is a pursuit or struggles to earn rewards - money and living the same lifestyle over and over. So, breaking the rat race is coming out of this repetitive lifestyle and being free.

Coming out of the rat race in Financial terms means being Financially Independent. That means you don't need to chase money to live the life that you are living right now. You make arrangements for your living expenses from your Passive Income so that you don't need to pay attention to earning for spending. Your cost of living is taken care of by your passive income and you now do what you love or work for your dreams.

It is like a safety net, your living expenses are taken care of. You may do nothing or you may end up chilling daily at the beach or maybe you start doing stand-ups (Ah, dream life for engineers)

So why Passive Income is necessary or why do you need to come out of the rat race?

I have got a simple and basic analogy for that, remember? Personal Experience? Nice, you are with me.

So, the lockdown was boring for many, and people ended up chilling or hustling, even more, found a new skill, or polished it, found a hobby, or started some new things.

Talking of myself among starting a blog and other things, I ended up planting a lemon plant and nurturing it. So, how is that relevant here?

Let me explain,

So, if you know some basics about planting you know it's no joke, you require serious attention and patience in growing a plant. Back to it, I ended up planting a lemon tree just because I thought let me grow something.

So, on Day 1, I planted some lemon seeds into the pot and watered it.

From Day 2, I kept an eye on the plant and kept watering it if it started losing moisture.

Days passed on and the seed broke and another life was emerged out of it. It was magical.

A Plant grows out from a seed. — Life from A Seed

Leafs started growing out and it got bigger inch by inch daily.

So normally a lemon tree takes around 3-4 years to actually give a lemon from a small plant.

So to actually receive a fully grown juicy lemon, the plant will take 3-4 years.

Till then I would have to rely on buying lemons from the market. And when the plant gives a lemon, I can use the seeds of it to plant a new lemon plant and wait for another 3-4 years till I have two fully grown lemon trees. The process will keep repeating itself till one fine good day when I will not require to go in the market and buy lemons but I will have that luxury of having my lemons at my own house.

Even better, some years later I would even start having surplus lemons and I can sell it to someone and earn from them.

Passive Income and Planting A Lemon Tree - An Analogy

So what I realised that isn't somehow passive income is similar to growing a tree? Now, you are a smart reader, you must have got the gist of it.

Passive Income is just like planting a lemon plant or any other tree/plant in that case.

You plant your savings to grow an asset and keep nurturing it (staying invested) and watering it (adding more savings to it) and having that patience while it grows.

When it gives you a lemon (interest income), you use that lemon seeds to grow yet another asset and you repeat the process so that it gives you another lemon plant (another source or an increased income)

You keep growing till you get enough money and then you wouldn't need to visit the market to earn more money.

In the initial years, you may need to use lemons totally from outside, then after some years, you may use some portion of lemons from the market and some from your plant, while later on after few more years, you may not need to buy from outside and you can manage to get enough lemons from your own plant at home.

Similarly, to create or generate a passive income, you may initially need to manage fully from active Income.

Later on, when your assets start growing, you may need to get a particular proportion of income from active sources to manage your expenses while some portion of it may be taken care by your passive income.

And few more years later, your passive income may increase than your expenses and you may not need to generate active sources to fund your expenses.

Such a simple analogy for such an interesting topic isn't it?

Well, you now pay attention to growing your lemon tree, and the earlier you start, the earlier you will reap lemon from the plant. Let me leave you with a renewed quote that I can relate to this blog right here, and then I will see you in the next blog