The most common form of wealth stems from active income, money earned from performing a service. This is capital made from but is not exclusive to jobs providing salaries, tips, or commission. But many times, the public hears of enigmatic stories about immense financial growth through various means of passive income.
As alluring as these anecdotes may be, they do not define the actual meaning of this appealing concept of passive income. Passive income can be defined as capital earned without doing much to make it, a form of wealth attained automatically and effortlessly (once firmly established). One of the more common examples of passive income would be rent from a tenant to a land owner. At first, the land owner must develop the property to the point where it is appealing to the tenant. After however long this may take, the rent then becomes a recurring form of revenue that requires little effort on the owner’s part.
Perhaps rental income is the most well-known form of passive income; however, the scope of passive income is much broader than just the real estate market. With the advent of the internet, social media, and the growing popularity of blogs, a relatively new source of passive income has emerged. Today, affiliate marketing, which is generated when targeted advertisements are placed on highly trafficked websites, has become a major revenue source for people with popular websites and blogs. As readers click advertisement links and/or make purchases from a website, the operator of the site makes a profit. For very popular websites substantial profits are accumulated from affiliate marketing. Other alternative sources of passive include dividend income, book royalties, and podcasts.
Unlike taxes on active income (which are typically deducted straight from a person’s paycheck), passive income taxes are not automatically deducted and rely on personal quarterly IRS payments. One possible alleviation from a significant end of the year tax bill is the use of the tax credit incentives. The use of tax credits minimizes the annual tax burden as well as avoids penalties and interest from failure to make quarterly payments. Federal tax credit programs (including the historic rehabilitation tax credit and investment tax credit) generate tax credits which can be used to offset passive income. Unlike state tax credits, the IRS mandates that federal tax credits cannot be transferred, therefore they cannot be “sold”. However, they can be utilized by investors in a carefully structured transaction. Investing in federal tax credit generating projects is a great option for people to offset their annual tax obligation. For example, imagine an individual with $100,000 in passive income taxes. If they invest $80,000 worth of cash into a project generating $100,000 in investment tax credits, the investor can then use the $100,000 tax credit to pay their income taxes due on passive income. This results in a 20% savings of $20,000. Transactions which generate cash have depreciation benefits which can offset the cash returns and further assist in making these transactions a financially astute tax plan.
Here at Cherrytree, we focus on the syndication and brokerage of the tax credits between developers and investors, providing the means where stakeholders from both parties receive great benefits through every deal. With any questions on how to get involved with successful passive income ideas or begin working with tax credits, please visit our website and feel free to reach out to anyone of our workers.