Yield... What is it? What is a good one?

Yield...

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What is the yield on a property, how do we define it, what is a good yield and what is a bad yield?

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If you consider yourself to be an advanced investor, already have property, or have been reading around the subject for a while now, then this may seem a bit of a basic topic.

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Despite that, it’s worth having a read, just to become reacquainted with the subject. You may even learn something you didn’t know, which may give you a different perspective.

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Yield… this is a subject that can divide property investors…. Some are very numbers and yield based… i.e. ‘I need THIS specific yield to make the numbers work. I don’t care where the property is, or what its upside is, it’s all about YIELD!’

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Others are less hardcore, yes, the yield is important, as it’s what is going towards covering our costs, but they won’t turn down a good deal because the yield is 5.4% as opposed to the desired 5.5%.

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As we will see later on, when GBP100k property has an income of GBP5k, or a 5% yield, if the property value rises, the yield technically falls… although the income stays the same…. So does this then become a worse investment?

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Ok, so what is the yield on a property and why is it so important?

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My definition;

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It’s the return you get in comparison to the value of the property and to calculate it you express the annual rental income as a percentage of the Value of the property. So, if you own a 100000 pound property and were getting 5000 pounds a year rent that would be a 5% yield.

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This is in simple terms. A simplified example. So please, if you are a techy person, and want to get into the nitty gritty, (leveraged returns, what to include as costs, depreciating/appreciating asset value etc) then drop me a message or a comment!

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Is 5% good?

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Better than leaving your money in the bank.

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As a rule of thumb, targeting a 5-6% plus yield will go most of the way to covering all ongoing costs associated with property. This does depend on the extent of management fees, interest only or capital and repayment mortgage, house or flat, etc, but it’s a rule of thumb to give you a guide line.

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Costs, how do these impact a yield?

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Gross yield and Net yield.

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In the above example of a GBP100k property and an income of GBP5k giving a yield of 5%, this is the Gross yield. The yield before any costs.

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If we deduct the costs from this GBP5k, then we are left with the net yield, or the yield after all costs.

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So …. Maintenance, Ground Rent, Insurance, agency management fees, service charges etc. What about Mortgage costs? Taxes? How do we include these?

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This is where difference of opinion comes into it, most will only include the immediate costs associated with the property to give net yield. Others will want to include all one off purchase costs. Solicitors, stamp duty, planning permissions. Alterations.

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Again, some people will want to factor all of these in, others won’t. It comes back to what your goals are. If you are looking at property based on a pure NET yield and you want maximum cash flow, then you need to be looking at gross yields of 7-8% plus. If your goal is to have a tenant pay the property off for you over 20 years, then the net yield doesn’t really matter, as long as it’s covering its costs.

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For me, my goal is to have properties paid off over time, I am not bothered by cashflow now, so I use a simple spreadsheet (one I can share with you), that looks at property value, minus the direct ongoing costs associated with the property. I do not include tax, as everyone’s tax situation is different based on their full income situation, this should be done on an individual basis. See below, the costs I included for a recent leasehold flat purchase.

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-??????Management fee.

-??????Service charge.

-??????Ground rent.

-??????Repayment mortgage.

-??????Landlord insurance.

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In this case, the property is valued at GBP220k, and the income is GBP12600 (1050 per month), so the gross yield is 5.73%.

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Management fee is 12%, so GBP1512, ground rent is GBP200, insurance GBP120, service charge is GBP1200, GBP782 (75%, 3% int and repayment) per month mortgage.

Total annual costs are GBP12416… so this will leave me with GBP15 per month positive cash flow…. Which I am fine with, as it’s paying off the mortgage and appreciating in value, I am not fussed on cash flow.

This works for me, it may not work for you!

Is higher always better/lower always worse?

Say you own a property for 100k and you are getting the 5k rent so you have a 5% yield. And your property goes up to 110,000 your rental yield would drop. Get the calculator out. Annual rent 5000 divided by property value 110 thousand equals 4.54545454 , so 4.5%.

What do you do? Sell the property? Is it now a worse investment? Have your costs gone up to give a lower yield? On paper, this now looks like a worse investment, even though its gone up in value?

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In this situation do we crank up the rental income in order to maintain a 5% yield? And risk tenants not paying or not having any tenants?

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Just some food for thought to get you thinking on how yield can be interpreted differently. Hopefully, this article has also got you thinking how you can use yield in relation to your goals and strategy.

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If your buying somewhere for maximum capital appreciation perspective, then your probably not looking at yield figures as closely.

If your buying property for maximum cashflow now, then you should be focussing on yield massively.

If your buying to have property ticking away in the back ground, then no need to focus purely on highest yield possible, just makes sure income covers costs, generally, 5-6% plus will do this.

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Get in touch if you have any questions or if you would like a copy of the simple (very simple!) spreadsheet I use.

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Thanks,

Callum