How to Calculate Rental Yield?
In the real estate market, one of the key factors used to measure the profitability of a property investment is the rental yield metric. To calculate a property's rental yield, you need three inputs:
- Rental Income: The profits generated by a property from renting out units to tenants.
- Operating Costs: The expenses incurred in operating the property, such as property management fees and repair costs.
- Property Value: The current market value of the property.
The rental yield of a property can be calculated by following these steps:
- Calculate the annual rental income.
- Determine the sum of all operating expenses.
- Divide the annual rental income by the sum of operating expenses.
- Convert the figure into a percentage by multiplying by 100.
Gross Rental Yield vs. Net Rental Yield: What is the Difference?
There are two types of rental yield metrics: gross rental yield and net rental yield.
Gross Rental Yield: This metric measures the rental income of a property relative to its property value, without considering operating expenses. It provides a quick estimate of potential profitability but lacks a comprehensive view.
Net Rental Yield: This metric considers the property expenses incurred in day-to-day operations. It provides a more accurate measure of a property's true profitability but requires more detailed financial data to calculate.
Rental Yield Formula
The rental yield formula compares a property's rental income to its property value. It helps investors understand the income to expect relative to their property investment. To calculate the net rental yield, use the following formula:
Rental Yield (%) = (Annual Rental Income - Operating Expenses) / Property Value * 100
However, remember that rental yield should not be used as a standalone measure to guide financial decisions. Other factors such as location, vacancy rates, and market trends should also be considered.
What is a Good Rental Yield?
Determining what constitutes a "good" rental yield depends on various factors such as location, property type, and market conditions. Properties located in high-demand, low-supply markets tend to have higher rental yields.
As a rough guideline, a rental yield between 5% to 8% is considered a decent starting point for most properties. However, it's essential to analyze other factors specific to the property and market.
What Factors Determine Rental Yield?
Several factors can impact the rental yield of a property:
- Rental Pricing Rate: Higher rental prices increase the rental yield, but the property must remain competitive with similar properties in the area.
- Property Value: Lower property values tend to result in higher rental yields, but there may be underlying reasons for the lower value.
- Operating Expenses: More expenses incurred from operating the property decrease the rental yield.
- Vacancy Rate: Properties with high vacancy rates have lower rental yields, so minimizing vacancies is crucial.
Rental Yield Calculator
If you need assistance calculating rental yield for your property, you can access a modeling exercise by filling out the form below.