The GAP: Passive Income VS Living Expenses
…Continuation from my previous post on Financial Freedom
With the Financial Freedom equation at hand…
Financial Freedom = Passive Income > Living Expenses
It’s time to look into the details on each side.
Quick shoutout: I’ve created a template that my readers can download and use at the end of this post.
Passive Income
The big ol’ question – What is passive income?
So far, the most common way of describing it is an income stream that comes in with little to no time being put in, which also means getting paid while you sleep/vacation/stone.
In contrast, the common income stream that we are familiar with involves one trading in time for money:
- A job (>8 hours)
- Freelancing (#hours)
- Taking on gigs (#hours)
- Operating a business (24 hours)
Evidently, we commit the hours in each of those income sources to eventually get paid. Hence, these are deemed as Active Income.
How to obtain passive income?
In my quest to search for passive income, I’ve explored quite a variety of things. Whilst a lot of people use the term passive income quite loosely out there, I deduced that passive income falls generally under 4 main categories:
Word of caution: It takes effort (money, energy and/or time) to build passive income. Anyone who tells you otherwise is either lying or it’s a not-that-legal method.
- Interest: Saving money in a bank (savings account/fixed deposit) or lending money to someone else who will repay you with interests on top of the amount you lent (e.g. friend loan, P2P financing, etc).
- Dividends: Dividends are cash paid out by companies/businesses when they have profits that are more than what they need to grow and run the business. These are based on the discretion of the company’s directors. The way to access this income is by investing into companies – typically via the stock market.
- Rental: Very commonly hailed at as a passive income stream, rental is the monthly payment if you rent out a property to a tenant. If you have good tenants, hooray (Super passive income). ๐ If you have horrible tenants, you’ll know what hell means (Semi-passive income with headaches). ๐ Unfortunately, we won’t know which ones they really are until AFTER signing the tenancy agreement.
- Royalties: Income from producing something and allowing others to use it. Think writing books, creating patents, producing music, franchise businesses, etc. They usually generate income calculated as a % of the sales done by a third party.
Are there other ways of achieving passive income? Maybe.. but I haven’t stumbled upon any others than what I’ve listed above, the legal ones anyway. So feel free to drop me a note if you have any passive income streams outside of these 4 categories!
Living Expenses
The other side of the equation – Living Expenses – is as straightforward as it sounds. Expenses that are necessary for our daily living needs. This will differ from person to person depending on the lifestyle that one chooses. Matching your living expenses based on your income is crucial and is a separate topic by itself.
These are also termed as “passive expenses” as they are expenses that are here to stay whether we have income or not. A rough list goes down as follows:
- Bank/finance repayment (mortgage, credit card loan, personal loan, family/friends loan)
- Childcare expenses
- Education (school fees, professional body fees, self-education)
- Food & groceries
- Grooming upkeep (haircut, clothing, footwear) โฌ No, retail therapy don’t count
- Housing expenses
- Insurance (health, life)
- Petcare expenses
- Subscriptions (gym, spotify, netflix, news, magazines, cloud storage)
- Transport related expenses (train, bus, taxi/ride-hailing)
- Utilities (electricity, water, telecommunication, internet)
- Vehicle related expenses (loan repayment, petrol, road tax, insurance, parking)
This list may be longer for some and shorter for others. Intentionally, I don’t include things that are non-essential for daily living, such as hobby expenses. That does not mean I don’t spend on them. It’s just that I can easily and swiftly cut them out, especially when tight on the money.
After listing those that applied to me, I quantified each of them based on a yearly amount (because some of them, like insurance, I pay annually). Then, I added up the amount to determine my Financial Freedom Goal (FFG).
Yes, this is a moving target, that’s why I come back to this every 6 months to see what needs to be revised.
As a plus point, when I first did up my list, I discovered expenses that I can reduce or cut altogether, such as that gym membership that I no longer use or the haircut in a premium hair salon that can be substituted with RM12 Quick Cut.
The GAP
By figuring out both sides of the equation, we have also identified the GAP to achieve financial freedom.
The GAP = Passive Income – Living Expenses
If it is negative = The amount of extra passive income needed to achieve financial freedom
If it is positive = You are free!
With this, financial freedom has been quantified. I told you I’m a numbers person, eh?
Template – The GAP
And as promised, I’ve created a template, based off my own, so that anyone can just pick it up and start populating the worksheet to see what is their GAP.
The accuracy of the data is as good as the inputs the user puts in. “Garbage in, Garbage out”.
