The idea of passive income appeals to people seeking security, freedom and relief from financial pressure. Psychologist and executive coach Valentin Haas says social media promises about saving a fixed amount and living from it indefinitely can create optimism before any real change has taken place.
In practice, passive income depends on several factors: a person’s income and expenses, the rules used to build wealth and the way that wealth is invested to generate regular payments. Completely effortless income is generally available only to people who inherit substantial assets. Everyone else must first earn and accumulate the capital.
Living entirely from investments is particularly demanding for employees. Ruhestandsplaner Michael Huber says even people with above-average salaries would need to save very aggressively to retire early through disciplined investing alone.
One example illustrates the challenge. A 25-year-old earning 3,000 euros net per month, with income rising by 5% annually, invests half of each month’s pay in an ETF savings plan. Assuming a 7% annual return after costs, the investor would have accumulated 1.75 million euros after 25 years, after taxes. However, inflation would significantly reduce the future purchasing power of that amount.
If the investor began withdrawing 5,000 euros per month at age 50, the money would last 19 years if it were no longer invested. With a 3.5% return during the withdrawal phase, it could last until age 77. The example assumes steady salary growth, consistent saving and relatively stable inflation. Huber questions whether those assumptions remain realistic, particularly once family-related expenses increase.
Planning passive income as a supplement to the public pension is considered more achievable. Financial planners often recommend having around 80% of the final net income available after retirement. Starting early is crucial: investing 950 euros per month for 30 years at an average return of 7% after costs could produce almost 1 million euros after taxes. With only 15 years available, the monthly contribution would need to rise to roughly 3,400 euros to target the same amount.
A capital base of 1 million euros could provide inflation-adjusted payments of 3,000 euros per month for 21 years if the remaining money were not invested during the withdrawal period. Continued investment could extend the payments to 27 years at an average return of 2.5%, or 32 years at 3.5%. Someone starting withdrawals at 67 could therefore potentially finance payments until age 99 under those assumptions.
Preserving the full million euros for 30 years would require reducing the monthly withdrawal to 2,000 euros and achieving a 3.5% return on the remaining assets.
The experts cited recommend continuing to invest during retirement, while balancing the need for reliable payments against the risks of market fluctuations. Huber suggests dividing the portfolio into ten-year stages. The money needed for the next decade, known as the consumption portion, should be invested defensively. Funds that will not be needed for ten years can form a growth portion with greater exposure to equities.
For a 20-year plan divided into two ten-year periods, around half of the portfolio could be invested in fixed-income assets, with much of the remainder invested in stocks. For a 30-year plan in which the total capital is not intended to decline, at least 25% should be held in bonds for the first ten years of withdrawals. The portfolio should be brought back into balance at least once a year.
Asset manager Christian Funke recommends using bonds or bond ETFs with staggered maturities for the consumption portion, so that a tranche becomes due each year. The proceeds can then be transferred to an instant-access savings account or a money-market ETF, from which regular payments are made to the current account. Once a tranche has been used, it should be replaced with new bonds or a new fixed-term deposit.
The portion that replenishes these withdrawals can consist largely of equities. Gains can be taken after no more than a year and moved into fixed-income investments. Dividend-paying stocks may also be included to generate a regular return, although they do not remove the investment risk.
Funke warns that an imbalance between fixed-income and equity holdings can create problems. In weak market phases, payments may either become unreliable or continue at a level that causes the portfolio to run out sooner than planned.
The central lesson is that investment-based income is possible, but it is not entirely passive. Building the required capital takes time and discipline, while turning it into a sustainable income stream requires regular monitoring, rebalancing and adjustments for inflation.
Sources: Handelsblatt.