Any potential investor will be interested in how much they can expect to make on their investment property, in other words, an investment property's yield.
While suburbs like Kensington are full of fantastic properties that would all make a fantastic investment, it takes careful consideration to find the best choice investment property for you in Kensington.
You've explored the listings from local Kensington real estate agents, found some fantastic investment properties in the area, and added them to a shortlist before looking at your next steps. The next step for savvy investors is to determine a property's yield. A yield is the projection of a future income from an investment property.
Most investors are only concerned with the property's current return and potential yield. However, some investors buy property for other reasons such as land banking, infrastructure potential, or lifestyle.
Luckily for most property investors, Kensington offers a wealth of investment opportunities to suit almost any property investment need.
Let's explain what all the terms mean before we get into how to calculate a property's yield.
Investment terms explained
The process of investing in property can be complex at the best of times, but without understanding the terms involved, it can be nearly impossible.
First of all, you need to understand what yield and return are. There are several terms that are used to describe a property's investment potential, and understanding them is essential to making sound investment decisions.
Real estate yield
An investment's real estate yield measures the income it will generate in the future. It is typically calculated annually as a percentage of the asset's cost or market value. Capital gains are unrelated to this.
Gross rental yield
A gross rental yield is a rental income on an investment before expenses are deducted. These expenses can be substantial for a property, so there can be a huge difference between gross and net yield.
Real estate net yield
Net yield refers to the income generated by an investment after deducting expenses. Costs and expenses will likely include:
- Stamp duty.
- Legal fees.
- Pest and building inspections.
- Loan start-up fees.
- Advertising.
- Rent lost through vacancy.
Repairs and maintenance, management fees, insurance, rates and charges may also be involved. You won't always know how much these costs will be, so you'll have to estimate them most of the time.
Return or total return yield
A return is a gain or loss made on an investment over a specified period. It includes capital gains and is either expressed nominally, in dollars, or as a percentage derived from the ratio of profit to investment.
As opposed to the property yield, the return emphasizes the past performance of the property rather than its future earning potential.
How to calculate rental yield
Rental yield is the rent return a property earns before considering any property expenses. It's essentially the annual rent you earn as a percentage of the property's market value.
Calculate gross rental yield
Here's how to calculate gross rental yield
- Sum up the total annual rent that you have or would charge a tenant
- Divide your yearly rent by the property value
- Multiply that figure by 100 to get the percentage of your gross rental yield
Here's an example of calculating gross rental yield.
Let's say you receive $30,000 annually in rent, and the property is worth $500,000. Your gross rental yield is equal to $30,000 ÷ $500,000 X 100 = 6%.
Example: Annual rent ÷ The value of the property X 100
Calculate net rental yield
You will need to do extra number-crunching to calculate net rental yield accurately. Follow these steps:
- Total up all expenses and fees
- Add up the property's annual rent
- Subtract the total costs from the rent
- Divide it by the value of the property
- Multiply by 100
Your property might have the following expenses:
- Repairs and maintenance
- Strata levies
- Council rates
- Property management and advertising fees
- Insurance
- Depreciation
Note that interest on your investment loan isn't usually included when calculating net rental yield. This is because loan interest isn't directly related to the property's costs; it relates to your own financial situation.
Net rental yield calculation example:
Assume you receive $30,000 each year in rent. You pay $10,000 yearly in property-related expenses, and the property is worth $500,000.
Your net rental yield is equal to ($30,000 - $10,000) ÷ $500,000 ÷ X 100 = 4%
Example: (Annual rent - the costs of owning/maintaining your property) ÷ The value of the property X 100.
What is a 'good' rental yield?
To answer the question 'what is a good rental yield,' you have to consider the location.
Typically, gross rental yields in metropolitan areas, especially state capitals, range from 3 to 5%. However, in regional areas, gross rental yield can be 5%-plus.
Read More:
To learn more about investing in Kensington, Melbourne, Victoria and how to calculate rental yields, visit Money Smart: Buying and managing an investment property
To find out more about house prices in Kensington, learn more on our Kensington Property and Investment Price Guide Page.
Are you looking for an investment property appraisal? Request an Appraisal For Your Kensington Property or find the right agent to help you along your property journey.
Do you want to learn more about Investment properties and rental depreciation in Melbourne Kensington? Then, check out our next article, "What is investment property depreciation?".