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Investing in real estate is a popular wealth creation strategy. And, if you ever thought of going down that road, chances are, you have come across the term yield.

Rental yield is considered an important indicator of a property’s performance – but many investors are not aware of the difference between gross and net rental yield, often comparing apples with oranges, leading to a mocktail (read investment decisions) that might not be very pleasant.

 
calculate rental yield

Generally speaking, rental yield refers to the rental income expressed as a percentage of the property’s value. This can be calculated as gross rental yield or net rental yield. Let’s understand the difference between the two.


Gross Rental Yield

A gross rental yield is the rental income you receive from your investment property before the expenses are deducted.

Gross rental yield= (Annual rental income / Property value) *100

Here, annual rental income can be derived by multiplying your weekly rent by 52. The property value is the market value of the property that will help you ascertain its current performance.

Let us say we have a property that earns $100 as rent per week. The market value of the property is $100,000. Thus, the annual rent would be – $100 times 52 (as there are 52 weeks in a year), which is $5,200. Thus, the gross rental yield would be 5.2%.

Often, purchase price is used to calculate the gross rental yield but this could lead to some very distorted results – as such a calculation does not account for the changes in the value of the currency as well as the asset.

Note that the gross yield does not take into account the costs associated with the property, such as your home loan repayments and maintenance costs. Thus, while the gross rental yield comes in handy to quickly compare a large number of properties, it could, at times, be misleading. Especially in the current scenario, when properties are appreciating significantly in value but rental rates continue to stagnate – gross rental yield loses significance as a metric of your property’s performance – because it does not take into account other factors such as capital gain, location, vacancy rates, costs, etc.

This brings us to Net Yield that calculates the income on investment after the expenses have been deducted.


Net Rental Yield

Net rental yield could be more indicative of the actual performance of a property – considering it takes into account the total cost, fees and expenses associated with owning a property.

Net rental yield = [(Annual rental income – Annual expenses) / Total property cost] *100

In order to calculate the actual expenses, you would need to consider, among other things, property costs such as loan cost, inspection costs, stamp duty, legal fees, etc. You must also take into account ongoing expenses such as mortgage repayments, maintenance costs, property management fees, loss of rent during vacant period, insurance, depreciation, etc.
Thus, if you buy a property for $500,000 with an annual rental income of $52,000 ($1,000 per week) and your total annual costs amount to $10,000, you would get a net yield of 8.4%.

Note that a lot of factors mentioned above are variable in nature. However, armed with a professional property report, you can make educated guesses to get a better evaluation of the property’s performance by calculating the net rental yield.


How important is rental yield to your investment decision?

Rental yield is a common factor to consider before you decide to buy a property. However, it is not a number that can be relied upon in isolation. The reason is that gross rental yield is not a decisive figure, as costs are not considered. Net rental yield is a more accurate projection of a property’s performance, but it takes into account several assumptions, which can affect your actual return considerably.

As always, we suggest you base your purchase on solid research – taking into account factors such as location, historical performance, vacancy rate, etc.

A seasoned mortgage broker can help you make informed decisions, thanks to their in-depth understanding of real estate markets and access to market data. In addition, your broker can help you save more by offering competitive home loan deals, tailored to your requirement. Get in touch with an experienced mortgage broker to kick start your investment journey.
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By Vidhu Bajaj
HashChing Content Writer

 

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