How to Calculate Rental Yield on your Buy to Let

27 Sep 2016

by Helen Thring

The best way to compare and contrast how your buy to let investment is performing is to calculate what investment yield it is offering you. You can do this before and after you buy and it should always be something you consider when you are contemplating a purchase, improvement or sale.

But what is the rental yield?

First of all, there are a variety of returns you can calculate, so let’s start by defining them here.

Rental Yield – This is the simplest way to compare buy to let investment opportunities but it is a fairly blunt instrument. It simply expresses your rental return as a percentage of the Purchase price of the property.

In reality, the rental yield, as calculated above, is very misleading. After all, there are very many substantial costs that you need to expend before you can say you have any return at all.

It is therefore better when comparing investment sectors to use one or more of the following indices to compare investment opportunities and/or past performance.

These are;

1. Net Initial Yield – This is defined as the annualised rent generated by the portfolio, after the deduction of an estimate of annual recurring irrecoverable property outgoings, expressed as a percentage of the portfolio valuation (adding notional purchaser’s costs).

In other words, your net return (before tax) that your annual rent represents as a percentage of the Gross Purchase Price. The Gross Purchase Price would include all costs of purchase including stamp duty, mortgage arrangement fees and surveyor’s fees, unrecoverable VAT, costs of purchase, associated costs including installation of services, repairs and initial improvements, agents and solicitors charges, etc. The net rent should be the gross annual rental received (or projected) less any voids, costs of letting, maintenance or insurance costs, management costs, etc, before tax. The annualised costs of borrowing are ignored.

2. Initial Return on Capital Employed – This is similar to the Initial Rental Yield but in this case we are interested in the yield expressed as a percentage of the net rent divided by the total cash investment made (including costs of sale etc) but excluding any loan sum. Because of the effects of gearing, the Initial Return on Capital Employed is likely to be quite significant if you have made a successful investment. What we are identifying here is the return you are obtaining on your own capital, excluding any money borrowed.

3. Equated Yield – This is a useful indices as it tries to incorporate an estimate of or reflect actual historic capital growth in your investment. Whilst the rental income might be the most obvious return on your buy to let investment, it is likely, especially in London and the South East, that Capital Growth is what has made buy to let a worthwhile investment sector.

For more information and advice on how to compare and contrast investment opportunities and for a market appraisal of your buy to let investment, contact our lettings team for a no-obligation discussion on 01344 860121.