Rental yield is one of the most important considerations for any new or current landlord.
It helps you decide whether or not a property is a sound investment. It is also used as a factor for lenders when considering the affordability of buy-to-let mortgages.
As a landlord, whether you're considering investing in a new property or reviewing your existing portfolio, knowing how to calculate rental yield is essential.
Read on to find out what rental yield is, our rental yield calculator, how to work out the net yield and what a good rental yield is.
What exactly is rental yield?
Rental yield is the financial return you can achieve on a rental property. You can calculate this by dividing your annual rental income by the total value of the property, including the initial purchase and any improvements that you have made or need to carry out in the future.
Rental yield is a crucial factor that buy-to-let investors and landlords can use to determine if their property is a 'good' investment. It's also sometimes used by lenders when calculating the affordability of a buy-to-let mortgage.
You can calculate rental yield as 'gross yield' or as 'net yield' depending on whether you factor in the running costs of a rental property. The gross yield is generally used when speaking to a mortgage lender about a buy-to-let investment.
Rental yield vs capital appreciation
While it's good to know how to calculate rental yield, it's important to remember that rental yield isn't the only factor that can help you decide whether to invest in a property. You may also want to consider capital appreciation; how much the property has increased in value and is likely to increase in the future.
In the years following the housing price crash of 2007, however, many property investors have looked to invest in a steadier but stable rental yield rather than capital appreciation. This is one key reason why rental yield has become such an essential measure of a property investment's financial performance.
Rental yield calculator
It's easy to work out the rental yield for your property by using our simple rental yield calculator sum. Firstly, find your annual rental income amount, then divide this by the property value. Finally, multiply the figure by 100 to get the percentage.
For example, if you paid £100,000 for a flat and received £200 a week in rent. This would bring your annual rent to £10,400.
£10,400 / £100,000 = 0.104. Multiply by 100 = 10.4%
How to work out the net yield
The above example is the 'gross yield,' i.e. the rental yield without consideration for running costs and other expenses involved with a rental property. In reality, you'll have some of these costs to consider, so make sure you factor these into your calculations when deciding whether or not a property is a good investment.
Here are a few things you need to consider when calculating net rental yield.
The premium amount will vary depending on the size of the property, the property type and its location. Typically, however, it'll probably take up between 2 and 3% of the rent - although this may be higher for a furnished property.
Landlord Insurance is not the same as regular home insurance. Read our Landlord Tip; 'The differences between landlord and home insurance' to find out more, or get a quick, easy quote. As a landlord, you may also want to consider Rent Guarantee Insurance to protect you in case your tenants can't pay their rent.
Replacing Broken Fixtures and Fittings
At the end of each tenancy, natural wear and tear will likely mean that you need to replace some fixtures and fittings. A well-kept inventory can help remind you which items are close to being on their way out so you can factor in the costs of their replacements.
You may also wish to re-paint every few years to ensure your property remains attractive to potential tenants and continues to merit its rental fees.
As well as the contents of your property, you'll also need to factor in general maintenance costs for the property itself. The type, age and condition of the property will all affect the level of maintenance required, so keep this in mind when selecting your property.
The cost of upkeep and the types of things you'll be spending on will vary from season to season. Spring is an excellent time to check your roof and guttering for any issues caused during the wintertime while cleaning your windows will become more important as more sun shines through.
Summer is the time to get your outdoor area looking its best, and you might want to service your boiler while it's not needed as much. As you move into the colder months, you may need to factor in maintenance costs such as insulating pipes and removing damp to prevent mould.
If the property is leasehold, you'll also have to factor in ground rent and service charges. The lease should tell you how much you have to pay and how often you need to pay it.
There's a good chance that your property won't always be occupied. Periods without tenants are known as 'void periods' as there's no rent coming in. Factor in this possibility and try to account for as much as one month's rent just in case.
If you use a letting agent or a managing agent, you'll have to pay a fee. This could include marketing, advertising, property management, tenant referencing and inventories. It depends on how much you're asking the agent to do, but it can range from 10% to almost 20% in some areas of the country.
Mortgage or Loan
Of course, the most significant sum will probably be your mortgage payments – therefore, it's imporntant to look for the best deals available.
Once you've calculated all of the costs associated with running a rental property, deduct them from your rental income. Now when you re-calculate your rental yield sum, use this figure. This is your net yield, or 'true yield'.
Finally, remember that some of these costs can be claimed back against your tax bill, but it's still wise to consider them. We've published an in-depth guide about tax for landlords, so it's well worth reading it before you get started. This way, you'll know how your income will be taxed.
What is a good rental yield?
There is no golden number to aim for, but as a general rule, you'll need at least enough funds to cover your running costs and mortgage payments. Ideally, you'll be able to build up an emergency fund to cover the expensive problems that can pop up with property investment from time to time but are difficult to plan for, such as a burst pipe or a boiler breakdown.
The financial requirements associated with property and the characteristics of the local property market will influence what constitutes a good investment. Areas with high rental demand or below-market-value property may seem appealing initially, but knowing how to calculate the rental yield will give you a much more accurate picture.
At the same time, while a property may offer high rental yields, it may also have a history of unreliable tenants and little chance of growing in value for re-sale. With these factors in mind, it's important to do your research into rental yields and areas in equal measure.