How do you earn $25K passive income? Passive means that you are not trading the hour for the dollar. It means that you also collect the cash flow regardless you are working or sleeping. There are various ways to earn passive incomes. Investing in bonds, you collect interests. Investing in stocks, you collect dividends. Investing in rentals, you collect rents. Investing as private money lender, you collect interests. We all know rental is classified in passive income in tax codes. However, in reality, it’s not even passive. At most, it’s semi-passive. For the stock or the bond, you don’t have the actual controls how much yield you are getting every year. You are just going with the market, up or down, you have no say. As a private money lender, you can act like a bank. You determine who you will lend and how much based on your own criteria.
So how you earn passive 25K passive income as a private money lender? Private money lender is the lender or investor who lends his/her own private capital for the investments secured by the real estates or business.
There are few hurdles. Yes, it’s passive but you still need to work a little before your investment generates cash flow.
First, you need to have capital to lend. How much capital do you need to generate $25K income a year? If you lend to a borrower at 10%, then you need to have 250K cash. If you lend at 15%, then you need $166,666. Does it seem a lot of capital? Compared to VTI (Vanguard Total Stock Market ETF), you need about $1.25 million to generate $25K dividend. Compared to bank saving rate, Ally Bank currently has 1% interest rate, you need about 2.5 million to generate $25K interests a year.
Second, you need to have borrowers who are willing to pay such interest rate and can actually pay you back both interests and principles once the notes are matured. This can be done through different channels, you can lend to someone you already know who is going to perform or you can lend through a broker. Do you look at credit? Yes. Do you decide who to lend entirely based on credit? No.
Third, you need to know your number and documents! This is probably the most important factor to control your risk. We can discuss about the documents some other day. Let’s talk about the numbers first. The numbers involved here will be these.
1. How much is the fair market value for the collateral?
2. How much fund is required?
3. What is the LTV ratio?(Loan to Value)
4. What is interest rate?
5. What are the terms? For how long? Interest only, balloon, or/and amortized, etc.
6. How are interests paid? Monthly, quarterly, yearly or in the end of term?
7. Does the borrower have other source of income to cover your interests?
8. Does the borrower have other assets if he is personally guaranteed the loan?
9. If things don’t go well, what other costs are involved? If the borrower doesn’t perform, is the collateral itself can over your principle and legal costs?
10. What is the timeline involved with the legal actions?
Are you a private money lender or thinking to be one? Share your experience or thoughts!