Many investors consider rental yield as a factor determining the location and amount of investment in a property. While this is not the only consideration to consider when making an investment decision, this is an important point because it can help you compare properties and find the best offer of the market.
Rental yield is a measure of the amount of cash generated each year by an income-generating asset. This is the rental income expressed as a percentage of the property value. There are two types of returns: gross yield and net return.
Gross yield
The gross rental yield is the most used calculation. The gross yield calculation is as follows:
Annual rental income (weekly rental income x 52) / property value x 100 = gross rental yield
For example, you charge $ 300 rent per week and the value of your property is $ 400,000. Your gross rental yield will be calculated as follows: 300 x 52/4000 000 x 100 = 3.9%.
The calculation of the gross rental yield is relatively easy. However, this can be inaccurate because it does not take into account expenses.
Net Return
The net return is much larger, but it is less easy to calculate than the gross return because it takes into account all the expenses you will incur to maintain and manage your property. To calculate your net rental yield, you must calculate your annual rental income, including expenses. The net rental yield is calculated using this equation:
Annual rental income – annual expenditure / total real estate cost x 100 = net rental yield
The total cost of your property may include:
Legal fees
Stamp duty
Loan fees
Price of the purchase of the property
Building inspection
Annual expenditures may include:
Vacancy costs
Repairs and maintenance
Body corporate fascia
Insurance
Rates and charges
Example of calculation of net rental yield:
Yearly
Rent @ $ 400 / week
$ 20,800
Vacant Posts Based on 2%
$ 416
Insurance
$ 500
Repair and Maintenance
$ 900
Management fees @ 9%
$ 1870
Net Income
$ 17,114
Value of Property
$ 400,000
Net Return (Net Income / Value of Ownership)
4.3%
Interest and taxes are generally not included in the calculation of the net return. This is because these variables are based on the circumstances of the owner and are not directly related to the property itself, according to Jeremy Sheppard, Research Manager at Select Residential Property.
You must include your mortgage interest rate and taxes in calculating your return on investment. You can also consider taking into account depreciation, property taxes, stamp duties, mortgage insurance, and so on.
Factors Affecting Rental Performance
Rental yield is important in determining the amount of your real estate investment. It can also help you make better decisions. Here are some of the factors that may affect rental performance:
Location. Popular areas such as suburbs close to downtown can attract high rents due to demand. For example, Melbourne's one-bedroom apartment market has the highest rental return in Victoria, at 6.7 per cent, according to the August 2019 report of the Real Estate Institute of Victoria (REIV). The location attracts CBD employees, higher education students and their families. You can check our Top Suburb page for a closer look at the Australian suburbs that could be worth the investment.
Economy. The region's economy has a huge impact on real estate prices, which affects rental performance. New infrastructure connecting the area to neighboring cities or providing transportation also has an impact on real estate prices. For example, Cairns, Townsville and the Hunter area have the highest rental yields in Australia, according to CoreLogic. This may be due to the strengthening of cities by government infrastructure projects, thus strengthening the economy.
Employment. People would like to live a little closer to where they work. When a region's economy is booming and businesses open more, there is a good chance that new jobs will be created. With more jobs and more people to welcome, properties are becoming more and more in demand to accommodate these people. You can consult the Australian Bureau of Statistics on employment and unemployment rates.
Population. The population and the real estate market go hand in hand: more people mean that more housing is needed to house the population. According to the latest figures released by the Australian Bureau of Statistics, the country's population is expected to double by 2075. However, the three levels of government collectively fund only 1.2% of new housing, leaving 98.8% of housing in the country. private sector.
Vacancy rate. Vacancy rates indicate the percentage of vacant rental housing. An oversupply of rental can affect vacancy rates in the region. A normal vacancy rate can vary from 5% to 8% on average.
High return, better cash flow?
A higher rental yield may result in a better cash flow for your investment property. Ideally, investors should aim for a rental yield of 5.5% or more, according to the Commonwealth Bank of Australia.
However, the high rental yield should not be the only reason why you want to invest in a rental property. Many investors have found that high-yield properties can lead to low capital growth (increasing the value of the property over time), negative cash flow or increased risk, said Lindy Lear, a real estate investor.
Verifying rental performance in your potential region is one of the steps you can take in your research. You can use the rental yield to estimate cash flows and calculate the expected return on investment. However, make sure the return is not due to falling real estate prices, but to rising rents.
It may be best to evaluate a potential investment property based on the growth factors of capital growth. Factors that may affect capital growth are the location, the housing market situation, the population, and the economic outlook for the region.
Focus on the big picture: you want your real estate investment to make money. Do not get carried away by the pursuit of high rental yields. Consider the total return relative to the risks that a property may entail.
If you would like more information on rental yield and its potential impact on your property investment, consult a professional who can provide you with more details and suggestions on the real estate market.
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