You’ll often hear the term ‘rental yield’ thrown around in the property industry. But what is it? In this article I’ll explain and show you how to calculate rental yield with some examples.

Calculating the expected rental yield is always a great place to start when evaluating a property’s potential return. It’s something we have personally been doing since day one on every property we’ve viewed and we’ve found it particularly useful when comparing multiple properties.

What is rental yield?

This is an article for beginners so let’s start with the basics; what is rental yield? Basically speaking it is a simple calculation that helps you determine the strength of the expected rental income with that of the expected purchase price. It can be worked out using gross or net income but to keep things simple we will begin with gross workings.

How to calculate rental yield?

Let’s jump straight in and explain how to calculate rental yield for single let properties with some examples:

The figures you will need to know for the calculation are:

  • Expected yearly rental income
  • Expected purchase price

You may not know these figures exactly but both can be estimated using Rightmove or previous sales/rental data from the land registry. The formula to calculate rental yield is as follows:

how-to-calculate-rental-yield-gross

Gross yield examples

I am considering 3 houses for purchase and want to compare the rental yields of each:

Property 1:

The expected yearly rent is £9600 and it’s likely to cost £140,000 so my calculation would be:

£9,600 / £140,000 = 6.85% gross rental yield

Property 2:

The expected yearly rent is more this time, £11,140, but the purchase price is going to be higher at £155,000.

£11,140 / £155,000 = 7.2% gross rental yield

Property 3:

This one is a flat and much cheaper. The likely yearly rent is £8700 and purchase price is £110,000.

£8,700 / £110,000 = 7.9% gross rental yield

What to look out for?

A higher percentage would signify a better investment. But what is a ‘good’ percentage to aim for? I think this heavily depends on the area you are investing in, if you’re in London for example, where purchase prices are extremely high, you’re going to struggle for anything above 5%. However, if you invest in the North East, it’s not unheard of to be getting yields in excess of 10%. Personally, we aim for around 7% which takes into account our goals and also the local market.

So based on the examples above, what should you be looking out for? It’s important to not only look at the end figures but also to consider the properties themselves. For example property 3 has the best yield on paper, but because it is a flat and therefore a leasehold property, it will come with associated ground rents and service charges that’ll eat into profits.

Property 2 has a higher yield than property 1 but the purchase price is £15,000 more. You’ll need to consider if your budget can stretch this far or whether taking a slight hit on yield, to avoid stretching yourself, is a better option.

Another thing to consider is the condition of the house. Whilst one may have a great yield, you need to consider the likely upkeep of the property. Property 1 may be of modern construction whilst property 2 might be a 1920’s cottage with a thatch roof that needs replacing. Bearing this in mind, the increased yield may be misleading as maintenance costs are likely to arise more often with an older property.

Gross Vs Net yield

As you’ve probably noticed by now, the calculation is simple, but drawing any conclusion from the figures has a lot more to it. For this reason, it’s always a good idea to dig a little deeper and work out the likely net rental yield. This is done in the same way but takes into account likely ‘costs’.

how-to-calculate-rental-yield-net

These costs can be split into ‘purchasing costs’ (for the first year) such as:

  • Legal fees
  • Stamp duty
  • Mortgage arrangement fees

And ‘regular costs’ such as:

  • Mortgage payments (75% LTV @ 3.5%)
  • Insurance
  • Letting agent fees (10% of monthly rent)
  • Ground and service charges (estimated for this example)
  • Property maintenance (estimated at 10% of annual rent)

Net yield examples

Let’s look at the same examples again, but this time we’ll factor in the expectant ‘costs’ to give us a net yield figure:

Property 1:

  • Expected yearly income: £9600
  • Purchase price: £140, 000
  • Purchase costs: £3,500
  • Other regular costs: £4855

£9600 / £140,000 = 6.85% gross rental yield

First year: (£9,600 – £3,500 – £4855 / £140,000 = 0.89% net rental yield

Subsequent years: (£9,600  -£4855 ) / £140,000 = 3.39% net rental yield

Property 2:

  • Expected yearly income: £11,140
  • Purchase price: £155,000
  • Purchase costs: £3,750
  • Other regular costs: £5988 (higher maintenance costs of 15% have been added due to age of property)

£11,140 / £155,000 = 7.2% gross rental yield

First year:  (£11,140 – £3,750 – £5988) / £155,000 = 0.9% net rental yield

Subsequent years: (£11,140 – £5988) / £155,000 = 3.32% net rental yield

Property 3:

  • Expected yearly income: £8,700
  • Purchase price: £110,000
  • Purchase costs: £1500
  • Other regular costs: £5140 (includes  ground rent and service charges as it’s leasehold)

£8,700 / £110,000 = 7.9% gross rental yield

First year: (£8,700 – £1,500 – £5140) / £110,000 = 1.87% net rental yield

Subsequent years: (£8,700  – £5140) / £110,000 = 3.24% net rental yield

Summary

Whilst calculating gross rental yield can give you some very quick insights, digging deeper and comparing net yields is far more accurate. As you can see from our examples, basing decisions solely on the gross yields can be misleading as the likely costs associated with owning the properties are excluded. For example without using net calculations, the yearly ground rent and service charges would be missed on property 3. Likewise, the increased likely maintenance costs of property 2 (15% instead of 10%) due to it’s age are also neglected.

In our hypothetical example, all of the properties actually had very similar net rental yields. Whereas the gross results showed property 3 as a clear winner. These calculations will only take you 5 minutes to do in Excel, but as you can see, they can provide some very useful insights that may not be apparent on face value.

If you have any comments about rental yield please leave them below, likewise if you have any calculations you use when comparing properties we’d love for you to share them.