Before delving into property investment, acquainting yourself with the term ‘rental yield’ is crucial. Rental yield provides insight into the potential income a property can generate from rent.
Investing in real estate offers the prospect of earning rental income. However, this isn’t guaranteed, especially if rental expenses exceed the rental income.
This article aims to elucidate the concept of rental yield, its calculation methods, what constitutes a good rental yield, and the associated expenses of owning a rental property.
Rental Yield: An Overview
Rental yield essentially denotes the return on investment from a rental property. It represents the profit derived from the property investment, i.e., the income left after covering property expenses.
Understanding rental yield aids in establishing investment objectives and devising strategies for improvement. It also provides insights into the property’s potential return before potential future sales.
There are two types of rental yield: gross and net.
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Gross Yield: This accounts for rental income before considering expenses.
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Net Yield: It reflects rental income after deducting expenses, such as property maintenance costs.
Calculating Rental Yield
Calculation of Gross Rental Yield:
1. Determine the annual rent charged to the tenant.
2. Divide the rental figure by the property’s value.
3. Multiply the outcome by 100 to obtain the gross rental yield as a percentage.
For instance, assuming a property purchased for $950,000 with a weekly rent of $500:
Annual Rental Income = $500 x 52 = $26,000
Gross Rental Yield = (Annual Rental Income / Property Value) x 100
In this case: (26,000 / 950,000) x 100 = 2.74%
Calculation of Net Rental Yield:
1. Calculate the total annual property expenses.
2. Determine the annual rent charged to the tenant.
3. Subtract expenses from the annual rental income.
4. Divide the resultant figure by the property’s value.
5. Multiply by 100 to derive the net rental yield as a percentage.
For example, assuming $4,000 annual property expenses:
Net Rental Yield = [(Annual Rental Income – Annual Expenses) / Property Value] x 100
In this case: [(26,000 – 4,000) / 950,000] x 100 = 2.32%
Expenses Affecting Net Rental Yield
Owning an investment property entails covering various expenses:
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Property maintenance and repairs
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Strata and property management costs
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Depreciation
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Council rates
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Insurance
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Water costs
Notably, mortgage repayments aren’t typically included in net rental yield calculations, as they relate to the investor’s financial situation and aren’t direct costs borne by the property.
Determining a Good Rental Yield
Identifying a ‘good’ rental yield hinges on factors like location, property type, and features. Typically, a low yield (2-4%) might suggest an overvalued property, while a high yield (8-10%) could indicate an undervalued property.
Higher rental yields can result in more stable cash flow, allowing for increased investment, spending, or savings, potentially transforming the investor’s lifestyle. However, market fluctuations may affect a property’s future rental yield.
Is a High Rental Yield Essential?
A high rental yield may align with certain investment strategies, but other strategies exist, such as negative gearing.
Negative Gearing: Involves expenses exceeding rental income, often leveraged for future capital gains upon property sale. While risky, these short-term losses can be offset by potential gains, aided by tax deductibility of expenses.
Boosting Rental Yield
Improving rental yield prospects involves several tactics:
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Location importance: Research popular areas with higher rental appeal.
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Property selection: Choose appealing properties for renters.
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Property enhancements: Renovations or improvements can justify higher rent.
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Pet-friendly approach: Accepting tenants with pets often leads to increased rental income.
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Curb appeal: Enhancing property exteriors can justify higher rents.
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Amenities like parking spaces and solar panels can increase property value and rental income.
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Professional property management can help attract tenants and optimize rental yield.
Apartments vs. Houses: Rental Yield Comparison
Apartments generally offer higher rental returns due to their affordability, particularly in inner-city areas with high demand. Houses may yield lower rents but possess higher capital growth potential.
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Disclaimer: The information provided is general and not financial advice. Seek professional guidance before making financial decisions.
