If you are considering investing in a rental property as part of your investment strategy, you may be interested in what the return will be on investment. While there are investors who will go into an investment property purchase with emotion attached, a smart investor will focus on the dollars and sense.
When looking for properties to purchase, before making the jump it is wise to calculate the yield on the property to ensure that there is a measure of potential income and measure if this will fit with your goals.
What is rental yield?
Rental yield is the difference between the rental income received on your investment property and the sum left after any associated property costs or expenses are deducted.
Some of the likely expenses that can come with an investment property are:
- Council and water rates
- Repairs and maintenance
- Insurance
- Depreciation
- Property Management fees and charges
- Strata levies including body corporate fees and special levies
How is it calculated?
Understanding how yield is calculated will assist in working out the return that can be achieved on a potential investment before you purchase. While investigating yields in past years of the property can help to consider if it is an area of growth and good investment.
When looking at rental yield, you should consider both the gross and net yield figures. This will provide a clear picture to determine if the property is a sound fit to meet your investment goals.
To calculate the gross rental yield, analyse the rent return of the property prior to any expenses being deducted. This figure is based on the total annual rental income that is received.
As an example, calculate the estimated annual rent, $50,000 and divide this amount by the property value, $900,000. This amount is then multiplied by 100 to calculate the percentage.
($50,000 / $900,000) x 100 = 5.5%
To calculate the net rental yield, work out the total annual rental income and minus the total annual expenses to be deducted. This should then be divided by the value of the property and multiplied by 100 to achieve the yield estimate.
For example, the annual rent of $50,000 less total expenses of $10,000 per annum leaves a figure of $40,000. This is then divided by the property value of $900,000 and multiplied by 100.
($50,000 – $10,000) / $900,000 x 100 = 4.4%
Is there a healthy rental yield?
A healthy rental yield on an investment property may fall into the range of 3-5% depending on a number of factors including location and potential growth in the area. Before purchasing, investigate what growth has occurred either in metropolitan or regional areas and what infrastructure is planned that may impact potential growth. You can then make an informed decision on the purchase.