If you’re thinking about buying a property to rent out, one of the first things you need to learn about is rental yield. The expected rental yield of a property is fairly easy to work out, and although it’s not the only thing to consider, it will be a helpful guide when choosing a rental property to buy. Essentially, the higher the rental yield, the better, and once you understand how it works, you may find yourself looking in different locations to find the best rental yield properties. Although related, rental yield is not the same thing as rental income, return on investment, or profit, and we’ll discuss the difference between these terms later in this guide. If you’re thinking of becoming a landlord, read on to learn everything you need to know about rental yields, including how to use them to choose the right property to buy.
What is Rental Yield and How Do I Work it Out?
Rental yield is a way of calculating the profitability of a property relative to its value. To work out the rental yield of a property, the rental income must be represented as a percentage of the property’s value. More specifically, rental yield is calculated by dividing the annual rental income by the property’s purchase price (or current market value) and then multiplying by 100.
The formula for calculating rental yield is:
(Annual rental income ÷ Property value) x 100 = Rental yield (%)
For example, if a property rents for £1,500 per month and is worth £300,000, the rental yield would be:
- £1500 x 12 = £18000 (annual rental income)
- (18000 ÷ 300,000) x 100 = 6%
The rental yield described above is known as the ‘gross rental yield’. This is because it doesn’t take into account expenses and outgoings, such as mortgage payments and maintenance costs. For this reason, it’s not an accurate measure of actual profitability, but rather a measure of potential profitability relative to a property’s value. Therefore, it’s more commonly used to compare property investments against each other rather than as a way to predict actual profits. To get a more realistic picture of a property’s real profitability, expenses should be included in the calculation, which is then known as ‘net rental yield’. ‘Net rental yield’ is hard to work out accurately and is rarely used in the initial stage of property hunting. So in this guide, when we mention ‘rental yield’, we’ll be exclusively referring to ‘gross rental yield’.
Although rental yield is one of the first things investors will take into account, it’s important to note that there are other factors to consider when buying a rental property, which we’ll discuss a bit later in this guide.
What is a Good Rental Yield in the UK?
The average rental yield in the UK as of 2023 is 4.76%*, and a good rental yield in the UK is considered to be between 6% and 8%**. However, the definition of a ‘good’ rental yield can vary depending on the individual investor’s goals and risk tolerance.
For example, many landlords don’t expect to make much profit from the rental income itself. Instead, these landlords try to choose properties that are likely to appreciate in value so they can sell the property for a large profit down the line. This is known as capital growth, and it often represents the most lucrative aspect of becoming a landlord. A capital growth-orientated investor may simply aim to ensure the rental income covers the running costs of the property, rather than produce a monthly profit. We’ll discuss rental yield vs. capital growth in more detail later.
Location may partly dictate the investor strategy. For example, areas where property prices are higher often have lower rental yields but greater potential for capital growth. This is, of course, a generalisation, and is also dependent on other factors, such as the property itself and the state of the property market. We recommend seeking independent advice before determining your investment strategy.
Does Rental Yield Affect a Buy To Let Mortgage?
Mortgage lenders may look at the rental yield of the property but it’s not particularly relevant to them. The main factors they use to decide how much to lend to you (and at what rate) are the rental income vs. the amount you are looking to borrow, your personal income, your outgoings, your credit score, and your overall financial situation such as total debt held. The lender will also stress test the rental income you receive to factor in any potential interest rate hikes or rental voids.
To ensure you find the right Buy To Let mortgage deal for your circumstances, and one you’re likely to be accepted for, speak to one of our specialist Buy To Let mortgage brokers. We have access to a wide range of deals from across the market, so we’ll be able to explore your options and see what deals are available to you. We can also apply on your behalf and help protect your credit score by only applying for deals you’re likely to be accepted for.
We also have a property management team who can help you find the right tenants, collect rent, organise check-in, check-out, and maintenance, and fully manage your rental property. To find out more about our property management services, please visit Michael Usher Sales & Lettings.
As we mentioned above, there are two ways to generate profit from a rental property. One is from monthly rental income and the other is from capital growth (the increase in value of a property over time). Which is more important depends on your investment goals and tolerance to risk.
If you’re looking for a property that will provide you with a regular income, then rental yield will probably be more important to you. However, in this instance, ‘net rental yield’ will be more useful than ‘gross rental yield’, as you’ll want to know how much profit you’ll have left over each month after all expenses have been accounted for.
If you’re looking to purchase a property that you can sell for a profit down the line, then capital growth potential will likely be more important to you. However, it’s important to remember that capital growth is never guaranteed, and the value of a property can go down as well as up.
Essentially, if you need a regular income from your investment, then a higher rental yield is more important, but if you’re willing to take on more risk in the hope of making a bigger profit, then the potential for capital growth may be more important.
It’s worth noting that these two strategies are not always mutually exclusive. The right property in the right location, along with a favourable property market, could provide you with profit through rental income and capital growth. As always, we recommend seeking independent advice before determining your investment strategy.
Rental Yield vs. Rental Income
Rental yield and rental income are both important factors to consider when investing in a rental property. Although related, they are not the same thing. The rental income is the amount of money you’ll receive from your tenants each month, and it’s unaffected by the property’s value. The rental yield, however, is the annual rental income represented as a percentage of the property’s value.
The rental income is a good measure of the cash flow that a property can provide, whereas the rental yield is a good measure of the potential profitability of an investment.
Rental Yield vs. ROI (Return on Investment)
Rental yield and return on investment (ROI) are both measures of the profitability of an investment. ROI is the total profit from an investment, expressed as a percentage of the original investment. It’s calculated by dividing the profit from the investment by the original investment and then multiplying by 100.
In terms of property investments, the main difference between rental yield and ROI is that rental yield only takes into account the rental income and the property value, whereas ROI takes into account the overall profitability of the investment, including profits from rental income and capital growth, and the overall cost of the investment, including property value, mortgage repayments, and maintenance costs.
Although the ROI is a more comprehensive measure of profitability, it’s only really possible to work it out accurately once you have all the necessary figures after you’ve sold your investment property. Rental yield, however, can be calculated before purchasing a property and is therefore more useful when trying to compare potential investments.
Rental Yield vs. Interest Rates on Savings Accounts
The interest rate on a savings account represents the percentage of interest you earn on the money you deposit in the account. They’re typically expressed as an annual percentage yield (APY). When deciding where to invest your money, it may be tempting to try and compare the interest rate of a savings account against a rental yield, but unfortunately, these two figures aren’t directly comparable. This is because the rental yield doesn’t represent how much profit you’ll make from a property investment. It doesn’t take into account the expenses and the property market (which could fall). So if a property has a rental yield of 8%, that doesn’t necessarily mean that it’s a more profitable investment than a savings account with a 4% interest rate. Deciding whether to invest in property, save in savings accounts, or put your money in any other investment class, is dependent on many factors. If you’re undecided, we advise you to speak to a qualified financial advisor before making a decision.
What Else to Look for When Buying a Rental Property
The rental yield is a useful tool for comparing different property investments, but it’s not the only factor you should consider when choosing a property. Some other things to look for are:
- Location. It’s usually recommended to choose a location that’s in demand and has a good rental market. You may also want to look for an area with good potential for capital growth if that’s part of your strategy.
- Property type and condition. Some types of properties, like apartments, tend to have higher rental yields than houses. It’s also important to take into account the condition of the property and the cost of any improvements.
- Expenses. You need to factor in all the expenses associated with owning a rental property, such as mortgage payments, property taxes, maintenance, and repairs.
- Your investment goals. What are your investment goals? Are you looking to generate a regular income, make a profit from capital growth, or both?
- Your risk tolerance. How much risk are you willing to take on with this investment?
If you want to learn more about what to look for when choosing a property investment, especially if you’re looking in Surrey, Hampshire or Berkshire, please contact our Sales & Lettings team who’ll happily give you some advice.
The Bottom Line
If you’re thinking of investing in property, it’s important you understand what rental yield is, how to work it out, and how to use it to compare properties. The rental yield is the annual rental income expressed as a percentage of the property value. It doesn’t represent the actual profit, but it is a useful starting point when assessing property investment opportunities. Aside from the rental yield, you’ll also want to take into account other factors such as location, capital growth potential, property type and condition, and expenses.
If you want to see how much you could borrow with a Buy To Let mortgage, we can help you. At Michael Usher Mortgage Services, we’ve been helping landlords throughout Surrey, Hampshire and Berkshire for over 30 years! We’re not affiliated with any particular lender, so we can access a comprehensive range of Buy To Let mortgages from across the market to find a deal that suits your needs. We’ll guide you through the process and liaise with your lender, estate agent and solicitor to ensure your application goes as smoothly as possible, and we can also help to protect your mortgage with our FREE Insurance Service.
Talk to one of our friendly mortgage advisors for free to get going quickly. Our head office is on Frimley High Street, but we can also help you remotely via phone or video call if you’d prefer. We look forward to chatting with you!
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