Yield on buy-to-let

[newbie_landlord]

Hi,

I'd like some help in calculating the yield on a buy to let property.

Say, I'm purchasing a property worth 200k, using a buy-to-let interest only mortgage

(30% deposit). Now the yield would normally be:

Yield = (Total rent MINUS running costs) / current value of property

Applying this to the above formula:

Yield = ((9000 - 2750) / 200,000) * 100 = 3.125%.

This sounds very low.

However, the money that I've put in is actually 30% i.e., 60k and not 200k?

So, is the true yield ((9000 - 2750) / 60000) * 100 = 10.41%

Forgive me if this is a really naive question, but am I missing something here?

Thanks.

[Guest caravanj]

Have you been watching Homes Under the Hammer because they bang on about percentage returns?

Are you in the rental market to achieve a level of percentage return or to achieve a monthly cash profit?

[Carryon Regardless]

I don't see your consideration of,

legals, surveys, arrangement fees, pre rental development costs, insurances.

It might even be reasonable for some to consider all the sale costs as they are likely to be applicable one day.

In considering revenues you might wish to consider any agents costs, you should factor in voids but at what proportion is something other factors would dictate, and of course general overheads.

When buying I am more interested in the % return against pre rental outlay, this gives a factor to decide (best guess) on feasibility.

When up and running the return against estimated market value is more informative as to if the property is a good performer.

Deciding if a venture is advantageous to you I would be more concerned at how well your out of pocket investment is returning against how the dosh might perform elsewhere.

For this there should be consideration as to the effort and involvement required for it to be developed and run, and greater consideration as to the risks.

Much research is usually required to have just some idea of the risks.

[Richlist]

Do the maths very thoroughly, including all costs. Check out the details below for thoughts on the true costs to include.

Don't be at all surprised if the figures show it is going to be a terrible loss maker. Very little property is profitable at the moment, and some of it is a seriously easy way to go bankrupt!

Be prepared to walk away from the whole idea if the numbers don't add up. And they probably won't.......

Investment Property Income & Expenditure analysis

Acquisition costs include:

• Purchase price, Stamp Duty Land tax, Mortgage arrangement & Broker fees, Legal fees inc. disbursements (searches etc), Survey cost, Initial safety inspections / remedial work, Refurbishment cost, Furnishing including carpets cost etc. and
• Initial void (loss of rent) prior to first let

Total Acquisition costs =

Gross rent (annual) =

Running costs include:

· Provision for voids (1)

· Provision for bad debts (2)

· Managing Agent fees (or notional cost if self-managing) (3)

· Maintenance & repair allowance (4)

· Insurance (buildings, plus any rent protection or similar)

· Gas service, gas & electric safety checks

· Ground rent

· Service charges

· Gardening or other services provided

· Provision for refurbishment at relet (5)

· Provision for replacement of furniture (6)

· Accountancy

· Travel / admin costs

Total running costs =

Finance Costs include:

· Mortgage interest (7)

· Other loan interest & charges

· Lost interest on cash invested (8)

Notes

(1) Voids vary widely by area & property type, and also depend on whether you are using an agent or not. Unless you have specific experience to give you a hard figure, allow at least 6 weeks per year

(2) Depending on tenant type, credit checking and use of guarantors, you may get away without a bad debt for a while. Eventually you will get one, and when it happens, it is often worth several months rent. If you get one bad debt every 5 years, at 2 months rent, that is almost 2 weeks per year.

(3) Property NEEDS managing. Either you pay someone to do it, or you will have to do it yourself. Even if you plan to do it yourself, you should budget an amount for your time and effort, as no-one should have to do this for free.

(4) Will vary hugely dependent on age / type / location / condition of property & what is the responsibility of any freeholder (covered by any Leaseholder service charges). In absence of a better figure, allow 0.5% of Total Acquisition Cost per annum for low maintenance properties, 1% for older, higher maintenance property.

(5) You should expect to have to spend money at each relet to keep the property up to standard, and to offset effects of normal wear & tear. Allow for complete redecoration every 3 to 5 years, new kitchen & bathroom every 10 years

(6) Furniture will not last forever! As a rough guide, expect to have to renew: Carpets & soft furnishings every 3-5 years, sofas etc every 5-7 years, mattresses every 3-5 years, electrical appliances every 4-5 years, wardrobes, tables etc every 7-10 years. Actual replacement cycle will depend on quality of both tenant and furniture!

(7) Exclude capital repayments, but allow for possible increases in interest rates. You may want to use a 10 year fix rate for budgeting, (even if you actually have a variable rate) as this is closer to the markets "best guess" of where interest rates will be over the longer term.

(8) Amount of interest, before tax, you would have earned on amount of Total Acquisitions Costs less mortgage and other borrowing, if invested in a high interest account.

Basic analytical measures:

Gross Yield %:

Gross rent x 100 / Purchase price

Quick and dirty measure, and pretty meaningless as an investment tool, as it ignores more than it considers.

Net Yield %:

(Gross rent Total Running Costs) x 100 / (Total Acquisition Costs)

Gives the true measure of return on the TOTAL capital employed. Useful for comparing two investment opportunities. Probably one of the best "bench mark" measures.

Net Yield on Cash invested %:

(Gross rent Total Running Costs Finance costs) x 100 / (Total Acquisition Costs Mortgage & other Borrowing)

Includes the effect of leverage (borrowing) on the project. Borrowing can increase apparent return, but it also increases risk. If Net Yield is lower than mortgage rate, borrowing will worsen the yield (while still increasing risk). Becomes meaningless if very high (or 100%) LTV

[newbie_landlord]

Thank you guys. Very informative.

Do the maths very thoroughly, including all costs. Check out the details below for thoughts on the true costs to include.

Don't be at all surprised if the figures show it is going to be a terrible loss maker. Very little property is profitable at the moment, and some of it is a seriously easy way to go bankrupt!

Be prepared to walk away from the whole idea if the numbers don't add up. And they probably won't.......

Investment Property Income & Expenditure analysis

Acquisition costs include:

• Purchase price, Stamp Duty Land tax, Mortgage arrangement & Broker fees, Legal fees inc. disbursements (searches etc), Survey cost, Initial safety inspections / remedial work, Refurbishment cost, Furnishing including carpets cost etc. and
• Initial void (loss of rent) prior to first let

Total Acquisition costs =

Gross rent (annual) =

Running costs include:

· Provision for voids (1)

· Provision for bad debts (2)

· Managing Agent fees (or notional cost if self-managing) (3)

· Maintenance & repair allowance (4)

· Insurance (buildings, plus any rent protection or similar)

· Gas service, gas & electric safety checks

· Ground rent

· Service charges

· Gardening or other services provided

· Provision for refurbishment at relet (5)

· Provision for replacement of furniture (6)

· Accountancy

· Travel / admin costs

Total running costs =

Finance Costs include:

· Mortgage interest (7)

· Other loan interest & charges

· Lost interest on cash invested (8)

Notes

(1) Voids vary widely by area & property type, and also depend on whether you are using an agent or not. Unless you have specific experience to give you a hard figure, allow at least 6 weeks per year

(2) Depending on tenant type, credit checking and use of guarantors, you may get away without a bad debt for a while. Eventually you will get one, and when it happens, it is often worth several months rent. If you get one bad debt every 5 years, at 2 months rent, that is almost 2 weeks per year.

(3) Property NEEDS managing. Either you pay someone to do it, or you will have to do it yourself. Even if you plan to do it yourself, you should budget an amount for your time and effort, as no-one should have to do this for free.

(4) Will vary hugely dependent on age / type / location / condition of property & what is the responsibility of any freeholder (covered by any Leaseholder service charges). In absence of a better figure, allow 0.5% of Total Acquisition Cost per annum for low maintenance properties, 1% for older, higher maintenance property.

(5) You should expect to have to spend money at each relet to keep the property up to standard, and to offset effects of normal wear & tear. Allow for complete redecoration every 3 to 5 years, new kitchen & bathroom every 10 years

(6) Furniture will not last forever! As a rough guide, expect to have to renew: Carpets & soft furnishings every 3-5 years, sofas etc every 5-7 years, mattresses every 3-5 years, electrical appliances every 4-5 years, wardrobes, tables etc every 7-10 years. Actual replacement cycle will depend on quality of both tenant and furniture!

(7) Exclude capital repayments, but allow for possible increases in interest rates. You may want to use a 10 year fix rate for budgeting, (even if you actually have a variable rate) as this is closer to the markets "best guess" of where interest rates will be over the longer term.

(8) Amount of interest, before tax, you would have earned on amount of Total Acquisitions Costs less mortgage and other borrowing, if invested in a high interest account.

Basic analytical measures:

Gross Yield %:

Gross rent x 100 / Purchase price

Quick and dirty measure, and pretty meaningless as an investment tool, as it ignores more than it considers.

Net Yield %:

(Gross rent – Total Running Costs) x 100 / (Total Acquisition Costs)

Gives the true measure of return on the TOTAL capital employed. Useful for comparing two investment opportunities. Probably one of the best "bench mark" measures.

Net Yield on Cash invested %:

(Gross rent – Total Running Costs – Finance costs) x 100 / (Total Acquisition Costs – Mortgage & other Borrowing)

Includes the effect of leverage (borrowing) on the project. Borrowing can increase apparent return, but it also increases risk. If Net Yield is lower than mortgage rate, borrowing will worsen the yield (while still increasing risk). Becomes meaningless if very high (or 100%) LTV

[Sasuke]

Hi,

I'd like some help in calculating the yield on a buy to let property.

Say, I'm purchasing a property worth 200k, using a buy-to-let interest only mortgage

(30% deposit). Now the yield would normally be:

CUT

Hi Buddy, I'm newbie as you so.. don't take my post so "seriously".

A 9000 rental income for a 200K property value seem a bit low, isn't? I'm hopint about 12000/year for the same property value.

A 3% is not so bad, you've to consider that you're paying some interests and you have to consider that in normal conditions your property value will increase year over year, so this is a potential worth.

When your mortage will be fully repaid, for sure you'll earn much more money...

I wish you all the best!

S.

[Richlist]

A 9000 rental income for a 200K property value seem a bit low, isn't? I'm hopint about 12000/year for the same property value.

Yes. You are absolutely correct. A 5.5% - 6.5 % gross yield is pretty much the norm and applies to virtually any property in any location (UK)......with very minor variations.

A 3% is not so bad, you've to consider that you're paying some interests and you have to consider that in normal conditions your property value will increase year over year, so this is a potential worth.

I'd suggset thats wishfull thinking!!!!! Property is FALLING in many areas and may continue to fall/ stagnate for another 10 years. Don't hold out for any capital appreciation any time soon.

When your mortage will be fully repaid, for sure you'll earn much more money...

But you will of course pay MORE tax, have less leverage and significantly reduce your 'return on capital invested'.

[Sasuke]

A 9000 rental income for a 200K property value seem a bit low, isn't? I'm hopint about 12000/year for the same property value.

Yes. You are absolutely correct. A 5.5% - 6.5 % gross yield is pretty much the norm and applies to virtually any property in any location (UK)......with very minor variations.

A 3% is not so bad, you've to consider that you're paying some interests and you have to consider that in normal conditions your property value will increase year over year, so this is a potential worth.

I'd suggset thats wishfull thinking!!!!! Property is FALLING in many areas and may continue to fall/ stagnate for another 10 years. Don't hold out for any capital appreciation any time soon.

>>> This is why I wrote "normal conditions". And nowdays it's financial war time, not normal conditions :-(

When your mortage will be fully repaid, for sure you'll earn much more money...

But you will of course pay MORE tax, have less leverage and significantly reduce your 'return on capital invested'.

>>> You're right, still dunno how to calculate the taxes due I'm not UK resident...

Cheers, S.

[Richlist]

You can always employ an accountant.

If you don't know what you are doing they will usually save you more than their fee so it IS cost effective......and their fee is tax deductable.

[Carryon Regardless]

Personally I don't get bogged down with the tax I 'might' pay until later.

If we make profit there is tax to pay, there are ways to increase tax efficiency but that's more of a consideration as the business progresses and often with accountancy knowledge or advice.

There are investments that may be more attractive than others tax wise but the first considertion has to be will I make money not how much tax will I pay, no profit and the tax consideration is irrelevant.

Tax is also very personal. The persons tax bracket due to overall revenues from all sources makes difference, as does the potential to employ family members to offset profits.

My view is 1st make the dosh then worry about how to pay least tax.

For those that are paying big tax, lucky buggers 'aint they doin' well.

[Richlist]

Thats one way of looking at taxes COR...... I have a somewhat different approach.

I view my tax returns as another opportunity of maximising my income. Unlike many landlords( probably the vast majority), I make sure I claim every single penny that I'm entitled to. I am continually looking at ways of adding extra categories of expense.

Just a few years ago it was not unusual to buy property and make a loss on rental income.....it didn't matter that much because the value of the property was, in some cases, rising by £000's per month to compensate. It seems that some 'new' landlords are still buying rental property in the hope/ expectation that there will still be some capital appreciation. In my opinion those days, in the majority of cases, are gone, for now, and we must instead ensure that the only other means of making money, rental income, is sufficient, after ALL the costs are taken into consideration to warrant the effort & risks.

[Mortitia]

Yes Richlist, I wondered when someone would mention 'capital appreciation'. Some parts of the UK especially London are experiencing price increases. The location of your BTL is critical if you want to benefit by CA short or long term.

Mortitia