Investing in a rental property is a good investment but on one condition: the good in question must be of good quality. To find out, we must study the rental market, see the prices of properties similar to its future investment and more importantly, calculate the rental yield.
In this article, we will focus on the calculation of rental profitability since it is an essential element to know before engaging in the investment of a rental property while it takes a certain technicality to do so.
Definition of rental yield
The rental yield or rental profitability is the ratio between the purchase price of the rental property and its cost price. It is, therefore, an indicator that makes it possible to estimate the benefit of the investment. It is expressed as a percentage and on an annual basis. There are two types: gross rental yield and net rental yield.
The interest of the calculation of the rental yield
Some people tend to estimate rent from the rental property per month to see how well their investment is going. This is not always effective. In fact, a property with a high rent may not yield an attractive return, and a property with a low estimated rent may be very profitable and therefore a better investment.
It is by calculating the rental yield that you will be able to know the effective quality of your future investment in the sense that it allows knowing the real profitability of the rental property in which you wish to invest. This is also the best argument to provide if you want to obtain a loan from banking organizations for the acquisition of your future investment. Thus, the rental yield allows the bank to identify the safety and relevance of your investment and therefore his.
Gross rental yield
- How to calculate the gross rental yield of a rental property?
The gross rental yield is the ratio of the gross cost price of the rental property and its total acquisition price. This is what real estate agencies usually say. It should be noted that the gross cost price corresponds to rents received, excluding charges for one year.
Let’s take an example. You want to buy a studio worth 90,000 Dollars with agency fees. The monthly rent is 450 Dollars without subtraction charges. The calculation of gross rental yield will be as follows: ((450 * 12) * 100) / 90000 = 6%. Therefore, the gross yield of this rental property, with its total acquisition price as a basis for calculation, is 6%.
- The accuracy of gross rental yield
For more details on the calculation of the gross rental yield of a property, it is essential to include all expenses relating to its purchase. So, to put it simply, you have to replace the total acquisition price of the good with the total cost price of your purchase.
This cost price is obtained by adding the purchase price of the property in question together with the various costs relating to it, namely: agency fees, notary fees and ancillary costs for the purchase of the property, such as the land registration tax, registration fees, if any, and value-added tax (VAT).
Let’s take our example from above to find out how it really works, that is to say, a rental property worth 90,000 Dollars(the rights of a rental and its net selling price are 83,000 dollars). Agency fees are 7,000 dollars), the notary fees are 7% of the net selling price, which gives us an amount of 5,810 Dollars after the calculation and ancillary costs are 420 dollars. By adding the purchase price of the property and the costs related to its acquisition, we obtain the cost price of the purchase which is then 9 6230 dollars. The monthly rent remains 450 dollars.
The calculation of the gross yield of the good is therefore as follows:
((450 * 12) * 100) / 96230) = 5.61%. Here we see a decrease of 0.39% compared to the gross profitability without the expenses related to the purchase.
- Gross rental yield when resorting to banking institutions
If you want to negotiate with banks for the acquisition of your rental property, you will have to include in the cost price of its purchase, for the calculation of the gross rental yield, the interest on your loan as well as the insurance costs related to your property. that. You can estimate if you do not know the exact amount of these various charges.
However, it is strongly recommended to inquire with the various banking organizations on the interest they collect and insurance fees on the credits they offer to avoid unpleasant surprises once the property acquired. Thus, including in your calculation, the cost of your loan will give you a better visibility of the profitability of your investment during the amortization period of your loan.
- Gross profitability and works
It is also possible that the rental property you want to buy requires rehabilitation. If this is the case, it will be necessary, in the same way as the loan, to include in the cost price of the purchase the estimated cost of this work.
- Is it sufficient to calculate the gross rental yield of the rental property?
The answer is no. Indeed, it is only a first element for the estimation of the yield of the rental property. Rental expenses are not taken into account in the calculation, whereas these can have a significant impact on rental profitability. These expenses vary according to the rental property and its geographical situation.
As stated above, the gross rental yield is the yield used by real estate agencies. Thus, it is, in general, used by the sellers of real estate or intermediaries as a sales argument. If you want to be certain about the return on your investment, you will have to go further and deepen the calculation by calculating the net rental profitability of expenses or the expense and taxes.
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The rental yield net of expenses
- How to calculate it?
For the calculation of the net rental yield or rental yield net of expenses, it is necessary to take into account the future costs incurred by the use of the property, without forgetting the annual expenses. These differ from one rental property to another and also depending on how you manage your property and according to your rental insurance.
For more precision on the calculation of the profitability of your investment, it will be necessary to be as precise as possible in the estimate of these expenses. They can be classified into three broad categories: non-recoverable expenses, property taxes, and management fees.
For the calculation, it is just necessary to add to the cost of the purchase these various charges, as the cost of credit in case of borrowing from the bank or in case of rehabilitation.
It would be normal; therefore, that the percentage of return you will have after the calculation will have a big difference in the gross yield. Almost all the expenses are taken into account in the calculation of the net rental yield of the expenses which you will be able, by calculating it, to have a yield close to the reality.
- Details on the three major categories of expenses to be taken into account when calculating the rental yield net of expenses
These are the charges payable for rental housing but cannot be requested from the tenant. This is the case for example in the case of co-ownership of the building. Thus, the owner of the property in question is required to pay the co-ownership fees and the fees of a co-ownership trustee if the co-owners decide to entrust the management of the property to a third person who will then be appointed a co-ownership trustee.
To these charges are also added the maintenance work of the building that is not attributable to the tenant, that is to say outside the minor maintenance work as the repair of a small hole on the walls or the rental repairs resulting from the fault of the tenant. In these cases, the latter must do it himself.
This charge must be paid by any tenant of a property every year. It is the tax administration that calculates it through three criteria, namely:
- The cadastral rental value that is equal to the weighted area of the immovable, that is to say, the living area of the rental property modified according to its schedules, multiplied by the price per square meter of reference.
- The tax rate in the place where the property is located. It is the local community itself that chooses it.
- The revaluation coefficient voted by Parliament each year.
It should be noted that these are only classic taxes. Indeed, it is quite possible that you are subject to other local taxes. The best way would be to go to the local community to ask for information on the subject.
Apart from the condominium fees which are the most common management fees, there are also other costs that the owner of a rental property must provide depending on how he wants to manage it.
Many homeowners currently tend to outsource rental management and entrust their property either to a property manager or to an agency that works for the same purpose. If this is your wish, do not forget to include these fees when calculating your expenses. In general, this service costs between 8 and 15% of the annual price of rents without taxes.
The management fees also include various insurance for the protection of your property and therefore your investment such as property insurance, civil liability, condominium insurance, possibly a rental holiday insurance, a deficiency insurance rental or insurance of unpaid rent.
Providing a holiday insurance is very important because it may be that problems arise when renting your property: adverse consequences due to economic conditions for example, or the major work you must perform for the maintenance of your property. good. And even if you do not want to opt for this solution, plan a half-rent at least for the estimation of your holiday insurance.
Rental yield net of expenses and taxes or net-net rental yield
This yield is not easy to calculate since, for its calculation, many relative and rental criteria must be taken into account. Thus, not only does it depend on the rental property you wish to acquire, it also takes into account your tax situation. However, it still allows a better visibility on the performance of your building.
- Calculation of net-net rental yield
For this calculation, you must include all the expenses taken into account to calculate the rental yield net of expenses and add the tax charges that you must pay for your rental property. These taxes vary depending on the property in which you want to invest: is it a new property or an old one? Thus, the calculation of this return is done on a case by case basis.
As you may already know, but it should be remembered, various devices have been put in place to boost rental investment: the Alur law, the Pinel law, etc. Thus, depending on the investment of your choice, you can benefit from the benefits and/or tax allowances.
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It is brought to your attention that as of this year 2018, zones B and C will no longer benefit from the Pinel system. The tax you have to pay also depends on the tax regime you choose (real estate, micro-land, Duflot, LMNP, former Borloo).
The marginal tax rate also affects your taxation. Finally, remember, if you want to calculate the net-net rental yield, you must subtract from your rental income the various social security contributions that must be, in this case, included in the calculation of your tax burden.