Knowing how to calculate property yields is one of the most beneficial need-to-know aspects of successfully investing in property.
Too many investors go into purchasing a property blind without actually knowing how that property is going to benefit them financially. Something might sound like a great deal on the surface, but when you run the numbers you might soon realise it’s not worth your time or your money.
There are two ways to work out your property yield:
Calculating your gross yield
Calculating the gross yield of a property is pretty simple. It’s the annual rental income divided by the purchase price. You then multiply this by 100 to give you the percentage. For example:
Annual rental income = £5,000
Purchase price = £100,000
5,000 / 100,000 = 0.05 x 100 = 5%
That’s the simplest calculation you can do and will give you a decent indication of whether the property you’re evaluating is a good if a good investment.
But there’s another way that’ll give you a more detailed figure.
Calculating your net yield
The net yield will give you a bit more of a realistic figure and this is the one you should work with. Like the gross yield, the net yield is still a simple calculation but this time you include any expenses. For example:
If your property has expenses of £3,500 each year, this might include your mortgage interest, letting agent costs, service charge etc, then the calculation is worked out like this:
Annual rental income = £5,000
Property expenses = £3,500
Total = £1,500 (this is your rental income £5,000 minus your expenses £3,500)
Purchase price = £100,000
1,500 / 100,000 = 0.015 x 100 = 1.5%
However there’s still one more calculation that you should run…
Calculating your return on investment (ROI)
Your ROI is the annual profit (your income minus costs) divided by your initial investment – rather than by the property’s initial selling price. We mainly use ROI calculations when using leverage – you can find more information on leverage here.
Broken down, it will look like this:
Annual rent = £5,000
Annual costs = £2,000
Annual profit = £3,000
Purchase price = £100,000
Mortgage used = £75,000
Cash invested = £25,000
The calculation here is 3,000 / 25,000 = 0.012 x 100 = 12%
Your return on cash invested is 12%
Which calculation should I use?
Put simply, it all depends on whether you plan to buy property with cash or a mortgage. If you’re using leverage (i.e a mortgage) then using the ROI calculation will give you a true reflection on your return on cash invested.
It might also depend on your strategy. If you’re not sure what strategy is right for you, it might be worth booking a strategy meeting with the team. Maybe you’re working on a high yielding strategy like this person or you may think there’s an obvious link between property prices and yields like this lady did.
When running your numbers, it might be worth working out what expenses are absolutely necessary, and which ones you can live without. Because at the end of the day, the less you have to pay out, the more money in your back pocket. Give this video a watch to see if you could cut your costs on any of these expenses. Now you know how to calculate property yields.
*The calculations shown are stripped down and simplistic for ease of understanding. These aren’t to be used for long-term cash flow purposes, but as a starting point to assess the profitability of a property deal you’re considering.