Just one of the reasons I invest in off-plan property
When I invest in property, one of my objectives is to get my money working harder than it would be invested elsewhere. That’s why I prefer to invest using the benefits of leverage, which increases my return on investment.
While I always factor in my expectations of capital gain (how much the appreciation in property prices is going to make for me), I’m always concerned about the ongoing viability of an investment property. Basically, the rental income I can earn must achieve two things:
- Produce a better return than having my cash sitting in a bank or invested in stocks or bonds
- Be enough to make my investment sustainable – if I can’t afford to hold my property, then my expected capital gain means nothing
The rental yield is only a guide
When you invest in property, one of the numbers you’ll be quoted is rental yield. Now, while this is a useful guide, it is no more than this – a guide. The rental yield that is quoted is always gross. What you are really interested in is the net rental yield. And this depends upon your expenses – and they are different for all investors.
What’s the difference between gross and net rental yield?
The gross rental yield (the number that selling agents will quote and the number that is quoted in official data releases) doesn’t take any of your buy-to-let costs into consideration. If you were to buy a property for cash and then manage it yourself, and incur no expenses or void periods, this is the percentage return you would receive.
You buy a property for £200,000 cash. It produces a rental income of £1,000 per month: £12,000 per year. The gross rental yield is 6%.
The net rental yield is much more relevant. This is calculated by deducting your costs from rental income, and then working out the yield.
The net yield is also impossible to produce on a national basis. Or even a local basis. This is because the costs that apply must be calculated on an individual property basis.
You buy a property for £200,000 cash. It produces a rental income of £1,000 per month. You pay £100 per month in property management fees and £100 per month in maintenance charges. Your gross rental income for the year is £12,000, and your total costs are £2,400. Your net rental income is £9,600, and your net rental yield is 4.8%.
That’s the number that I’m interested in – the net rental yield.
The effect of investing in property with financing
Now, what I want to do is increase that net rental yield as high as possible. So, instead of investing all my cash into the property, I invest part of it. This is my deposit. To pay the balance, I use a buy-to-let mortgage. At the time of writing this article, I can obtain a buy-to-let mortgage at an interest rate of 4.4% fixed for two years. I need to put down a 40% deposit.
In our example, I’d need to put down a deposit of £80,000, and have a mortgage of £120,000. The interest on this mortgage totals £5,640 for the year. This means that my cash flow now looks like this:
- Rental income = £12,000
- Mortgage = £5,280
- Property management = £1,200
- Maintenance = £1,200
- Net rental income = £4,320
This is much less than the £9,600 net rental income if I had bought the property outright, but look at the net rental yield my money makes for me:
I invested £80,000 capital, and this produces a net rental income of £4,320. This is equal to a net yield on my capital invested of 5.4%.
Ramp up rental yield with off-plan property
My preferred property investment is off-plan property. By investing off-plan, I take advantage of discounts to current market value. This gives me a cushion against temporary falls in value and boosts the capital gain potential. But it also boosts my net rental yield, because those maintenance costs mostly drop out of the equation: I benefit from building guarantees and new appliances, fixtures and fittings.
This is a real help in the first few years of owning an investment property. Deduct those maintenance costs from the example above, and the net yield rises to 6.9%.
To put this into some context:
- Investec is currently the best savings rate for £80,000 cash. You’ll get 1.9% provided you lock your money away for a year (from moneysavingsexpert.com).
- The dividend yield on the FTSE 100 is 3.81%.
So, do I want to invest for an income yield of 1.9%, 3.8%, or 6.9%?
For a personal appraisal of the potential net rental income, you might achieve by investing in property, contact Gladfish today on +44 207 923 6100. Our no obligation strategy consultation will help assess your current financial position and let you decide whether property investment is right for you.
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