7 things every first-time landlord needs to know about rental yields

If you’re researching property investment, there’s one word that will crop up time and time again: yield. But what is a yield and why is it so important to landlords? Here are seven points to consider.

1. Your rental yield tells you if a buy-to-let is viable

Your rental yield is the income a buy-to-let generates. It’s expressed as a percentage of the property’s value. The higher the percentage, the more viable and financially sound the investment should be. If your yield is low, your investment may not generate the funds to cover maintenance and unexpected repairs.

2. Yield depends on two critical figures

Every yield calculation starts with two figures: the achievable monthly rent and the purchase price of the property. These vary where you are in the UK. Good yields normally start with a purchase price that’s lower than the UK average and a rent that’s higher than the UK average.

3. There are two types of yield calculation

Depending on where you are in your investment journey, you’ll use one of two yield calculations: gross or net. 

Gross rental yield – a property’s gross rental yield is most useful for first-time landlords and investors buying new properties. Knowing the gross yield allows you to compare the performance of multiple properties, based on the rent achievable and the purchase price. It removes the guesswork from working out whether a property will generate income. 

Work out a gross rental yield by 

• Multiplying the monthly rent by 12 to get an annual rental figure

• Dividing the annual rental figure by the property’s purchase price

• Multiplying this result by 100 to get the yield as a percentage

Net rental yield – a property’s net rental yield reflects your income once running expenses have been deducted. This is the most critical calculation once your buy-to-let is up and running. Landlords should regularly work out their net rental yield as it will show whether they are operating with a financial buffer, or whether the property is straying into unviable territory.

Work our net rental yield by 

• Multiplying the monthly rent by 12 to get an annual rental figure

• Deducting the running expenses, including management fees, service charges and insurance costs

• Dividing this figure by the property’s purchase price

• Multiplying the result by 100 to get the yield as a percentage

4. Yield calculations don’t normally include mortgage repayments or the tax you pay

While rental yield calculations are widely used in the industry, they don’t tell landlords the full profit figure. You’ll need to add your cash invested (mortgage repayments, loan costs, deposit paid and stamp duty) into the equation to establish a true return on investment (ROI). 

ROI is calculated by dividing the net annual profit (income less running expenses) by your cash invested and then multiplying by 100, giving a ROI as a percentage. 

The calculation can become more complex when you factor in income/corporation tax and price appreciation, so always take professional advice when working out your ROI.

5. There’s a definition of what a good yield is

If you’ve worked out your gross yield, how do you know if it’s good enough to proceed? In the UK, a good gross rental yield is considered between 5% and 8%. Anything over 7% is considered very good. 

6. You can improve a poor rental yield

Common ways to improve a rental yield include:

• Reviewing the rent to see if it can be increased in line with market averages

• Making improvements to the property that add value

• Making the property more attractive to tenants to justify higher rents

• Switching to a high-yield model, such as a House in Multiple Occupation

7. Mortgage lenders may look at your yield

First-time landlords taking out a loan are subject to different affordability checks to owner-occupiers. Lenders will want rental income that covers at least 125%-145% of the mortgage payments but they’ll also apply stress tests and look for a yield that’s above 5%.

Sample calculations based on:

• a property bought for £260,000 

• a cash deposit of £60,000

• a monthly rent of £1,400

• annual running expenses of £2,500

• a monthly interest-only mortgage payment of £916

Calculations for existing buy-to-lets should use the property’s current value instead of the purchase price.

Gross rental yield

• Annual rent = £16,800 (£1,400 x 12)

• £16,800 ÷ £260,000 = 0.06

• 0.06 x 100 = 6.5% gross rental yield

Net rental yield

• Annual rent = £16,800 (£1,400 x 12)

• £16,800 - £2,500 expenses = £14,300

• £14,300 ÷ £260,000 = 0.05

• 0.05 x 100 = 5.5% net rental yield

ROI (before tax deductions)

• Annual rent = £16,800 (£1,400 x 12)

• £16,800 - £2,500 expenses = £14,300

• £14,300 - £10,992 annual mortgage repayment = £3,378

• £3,378 ÷ £60,000 cash deposit = 0.056

• 0.056 x 100 = 5.56% ROI (before tax & stamp duty deductions)

Working out yields and your ROI 

We want your first property investment to be successful so feel free to get in touch for help with calculations. Our local knowledge means we know where purchase prices are low but rents are rising, improving your yield prospects.