How to Calculate the Return on Investment of your Rental Property
So you have a rental property. It’s in a great area with huge potential for growth. There’s little to do by way of maintenance, and you’re more than happy to just sit on it for a few years to see what it does. But you also want to know how much it will make you – what’s the return of investment on your investment property? How do you calculate it? And will you be able to retire when you want, with the lifestyle you want?
While we can’t help you with retirement age and lifestyle, we can give you some pointers on your return on investment. You’ll have heard the term “yield”. That’s basically how much money an asset makes, expressed as a percentage of the asset’s worth. When referring to a rental property, yield is the rental income as a percentage of the value of the property. You can calculate it before expenses (gross yield) or after (net yield).
A gross yield allows you to compare properties with other properties. It’s worked out by using the annual rental income divided by the market value and multiplying it by 100 (to get the percentage).
- Gross Yield= Annual Rental Income / Market Value x 100
You can work out the yield for any time in the past, or at the current time, to give you some indication of how the property is travelling in terms of investment returns.
Don’t forget, of course, the net yield will give you a better indication when you take into account any expenses on the property, and it is a great way of determining if you can afford the rental property you’re looking at. You need to take into account any, and all expenses relating to the property, such as maintenance costs (is it an old house with lots of running repairs?) and insurance (is it in a flood prone area? – you may want to read how to protect your investment property from flood damage). When talking about net yield, the calculation is annual rental income minus annual expenses, divided by total property costs, and then multiplied by 100 to get your percentage.
- Net Yield= Annual Rental Income – Annual Expenses / Total Property Costs x 100
It sounds complicated but, rest assured, it’s not. And again, it’s the most reliable indicator of affordability. There’s little point purchasing an investment property only to discover you can’t maintain the lifestyle you currently have.