Three Types of Income

When it comes to earning money, there are three basic types of income. Education in this area is extremely important for several reasons. One reason is because the IRS taxes each type differently. Another reason is due to the level of reproducibility of each type. Thirdly, the law of sowing and reaping plays a major role in types of income.

The first type of income is called Earned Income. It’s pretty much what it sounds like: income that you earn at a job. Other names could be a paycheck or a W2. This type of income is the most common form of income for the majority of people. They get up each day, clock in at their place of employment, work 8-10 hours, clock out, and receive a paycheck for their hours worked. They are employees. This type of income is taxed at the highest rate by the IRS. Earned Income also encompasses self-employed workers who must work in order to be paid, such as contractors, dentists or lawyers with their own practice, etc. However, there is a big difference in tax rates for the employee versus the self-employed worker, but we’ll cover that another time.

When it comes to reproducibility, this type of income is only as available as the worker. If the employee is unable to work, the income stops flowing in. Earned Income is completely dependent upon the person earning the income and therefore could be considered a risky type of income. Sickness, injury, or death directly affects the income stream for the employee and the family members who depend on them.

Sowing and reaping in Earned Income is manifested by the level of educational effort as well as sweat equity. Study hard to become a white collar professional, and you will have the qualifications to make a higher income. Work hard at whatever position you have and you are likely to receive bonuses, pay raises, promotions, commissions, tenure, overtime, or pensions. Either way, the law of sowing and reaping holds true in Earned Income; if you plant effort, you will harvest rewards.

The second type of income is called Passive Income. This type of money flows in regardless of continuous labor. It has been referred to as “mailbox money.” It just shows up in the mailbox or the ACH credit to the bank account. It is taxed at a notably lower rate than Earned Income.

The very title of Passive Income indicates that the reproducibility of this type of income is better than Earned Income. Passive Income puts money in your hands whether or not you get up and clock in at a job. It makes you money while you sleep! Examples of this kind of income would be royalties from intellectual property, rental property, and income from a business. Because Passsive Income in its truest form is not dependent upon the continual effort of the person who benefits from it, it is very reproducible from day to day, and “paycheck” to “paycheck.” This is not to say that Passive Income is without risk. There are many external variables that could affect its viability, but the clocking in and out of the person earning Passive Income is not one of them.

Perhaps nowhere else is the law of sowing and reaping better demonstrated than in Passive Income. Without concentrated effort in the beginning, there will never be a harvest to reap. Unless you write that book or record that CD, you will never collect those royalties, giving you more time to serve in your local church. Unless you buy a rental property, you will never collect the income stream from the rents each month while you set up one-on-one Bible studies with your neighbors and acquaintances. Unless you start that business, you will never get to the point of success where you can hire employees to run it for you while you watch the money flow in from the mission field. This type of income requires much effort upfront for much reward later.

The final type of income is called Portfolio Income. Think of paper when you hear this. It includes income from stocks, bonds, mutual funds, and other paper asserts. This type of income is usually taxed at a lower rate than Earned but a higher rate than Passive.

This type of income is also highly reproducible. For example, with dividend paying stocks, many times you are offered the option of reinvesting your dividends right back into the company to purchase more stocks. This is an exciting way to watch the growth of your portfolio income. Of course, we’re all familiar with the crash of 1929 that stimulated the Great Depression, and more recently, the Recession of the early 2000’s. Obviously no one would claim that Portfolio Income is risk-free.

Sowing and reaping is also very observable in Portfolio Income. If you invest your money in paper assets, the goal is to see a return on that investment. The quantity of your return will usually directly reflect the quantity of the initial investment along with the quality of research conducted to determine the best investment.

This has just been a short summary of the three types of income: Earned, Passive, and Portfolio. Take initiative to do some additional self-education and evaluate where your income stream comes from. Are there changes you would like to make? Time to roll up your sleeves. “Be not deceived; God is not mocked: for whatsoever a man soweth, that shall he also reap.” Galatians 6:7

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