Before you invest in a buy-to-let property, you'll need to know how likely you are to make a profit from it. The best metric for making this judgement is rental yield.
Before you purchase a buy-to-let property, you will need to work out if it is financially viable and a worthwhile investment. A good place to start is to work out the rental yield of the property.
Rental yield is the measure of how much annual income is generated from a rental property as a percentage of its value. It is used by investors and landlords to measure the value of their properties. Rental yield will often be a key consideration when landlords decide to buy and sell investment property.
There are two ways to calculate rental yield. You either work out the gross yield or the net yield. For both, you’ll need to know the purchase price or the current market value of the property, and the annual rental income that you may want to receive.
To work out the gross yield, you will need to take the annual rental income amount and divide it by the property value. Then you convert this figure to a percentage by multiplying it by 100. For example:
The remaining figure is your gross yield percentage. In the above example, the gross rental yield is 5%.
The gross yield is the most commonly used rental yield metrics as it’s the simplest to work out. The vast majority of mortgage lenders mean gross rental yield when they refer to rental yields. However, it’s always a good idea to clarify the exact type of rental yield being discussed if it’s not already clear.
The net yield of a property is a more accurate way of assessing the profitability of an investment, but it is harder to work out. Net yield gives you a more exact figure pertaining to the amount of money that you are like to make (or not, as the case may be) from investing in a particular rental property.
To work out net yield, you need to take any potential expenses away from the overall purchase price of the property. These costs may include:
To work out either your gross or net yield, simply enter your figures into our Financial Analysis Calculator.
Good rental yield all depends on your investment strategy, the current housing market and the location of the property. Rental yield is likely to be higher outside of London due to the lower value of property but this may be offset in certain London areas by the higher demand. Similarly, property investors in London may accept a lower rental yield to benefit instead from London’s historical capital growth. Rental yield can only be considered “good” in as far as it is “good” for your investment strategy.
In summary, different property investors have different strategies. Some prefer high yield, low value properties for a relatively small but steady income, others prefer high value properties with low yield, intending to make significant capital gains as the property value increases. For more ideas of where to invest, check out our expert investment guides.
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