It can be a little confusing when presented with buy-to-let yields that are somewhat light on detail and vague at the best of times when you are looking at investments. It is also important to be able to calculate the yield of your existing portfolio.
The UK Land Registry House Price Index for May 2012 shows an average house costs £160,417 and in the same month the average rent in England and Wales rose by 0.4% to £712 per month.
In this instance we will use simple calculations for a quick yield comparison, so there will be no consideration of the full purchase costs or running costs, just purchase price and rent.
Rent (£712pcm x 12 = £8,544pa) / House Price £160,417 = 5.3% Gross Yield.
Take a more detailed look at calculating yields
What matters fundamentally is how much of your own money you are actually spending, i.e. a cash purchase or cash deposit with a buy-to-let mortgage.
The two most common errors are investors adding in the whole purchase price when they shouldn’t, or leaving costs out that are essential to achieve an accurate yield.
Firstly calculate the Gross Purchase Costs, combine capital costs including the cash purchase price. For the Net Rent, take the rent and subtract all running costs.
e.g. The Gross Purchase Costs is: (Purchase Price + Legal Fees, Surveys, Refurb Costs.) The Net Rent is: (Expected Annual Rent – Agent Fees, Property Insurance, Annual Safety Checks.)
To complete the Rental Yield calculation: (Net Rent / Gross Purchase Costs X 100 = % Rental Yield Gross before tax.)
Cash deposit with a buy-to-let mortgage
The key point to focus on with an investment is the amount of money you actually pay out of your own pocket to achieve the return i.e. the rental income or capital growth.
When you are using an interest only Buy-to-let Mortgage the only part of the Purchase Price you must include is your cash deposit. Why? Because the yield should only be based on the money you actually spend i.e. the deposit, as the cost of the mortgage will be funded out of rent.
e.g. The Gross Purchase Costs is: (Your Cash Deposit + Legal Fees, Surveys, Refurb Costs.) The Net Rent is: (Expected Annual Rent – Buy-to-let Mortgage interest payments, Agent Fees, Property Insurance, Annual Safety Checks.)
To complete the Rental Yield calculation it’s the same: (Net Rent / Gross Purchase Costs X 100 = % Rental Yield Gross before tax.)