If you are thinking of investing in a property to rent it out, there is something very important you should learn to do first: how to calculate the rental yield of the investment.

The profitability of any property investment is divided into two areas: first, the net return generated by renting the property and, second, the difference between the value to purchase the investment minus the net value of the sale of the investment. The first part is called “Rental Return” (or “Rental Yield” if referred as percentage),while the second part we call it “Capital Appreciation”.

In this insight analysis, we look at the rental return of any property investment.

This information is essential when choosing the right property.

Thanks to this simple calculation, you will know if the income you are going to get from renting will allow you to coverall the expenses required for the investment. But to do so, you need to know some basic concepts such as gross profitability or net profitability, which we will talk about later.

So, read on, because we are going to tell you how to calculate in a simple way, step by step, the profitability of a rental property, with and without a mortgage, so that you can assess whether a property is a good investment or not.

However, as in these cases it is always better to have the help of an expert, at Holox Invest we will be happy to advise you so that you can make the investment that offers you the best sustainable profitability.

‍

What is rental yield?

The profitability is the economic return that an investor obtains after renting a property they own to a third party.This profitability, of course, can be estimated before making the investment and we are going to explain how.

What is the purpose of calculating the profitability?

Calculating the profitability of a property for rent can be useful for two reasons:

1. To find out what is the maximum price you can pay for a property. If you are clear about the profitability you expect to achieve, the cost of your investment and the rent you could opt for, you will know from its price whether a property is of interest to you or not.

2. Calculating the profitability will allow you to compare among properties, when it is more profitable to buy to rent or sell a property rather than to keep it rented.

How to calculate the gross profitability of rental property?

Gross profitability is a percentage that measures the link between the cost of an investment and the return or benefit it produces.

To calculate gross profitability, the following two factors must be considered:

- The price of the property.

- The monthly rent we might expect to get from the property.

This requires a deep knowledge of the market, so at Holox Invest our job is to value any property for any of its potential destination of use, and to study the rental prices in the area.

To calculate the gross profitability, we must divide the estimated annual income to be received by the price of the property and multiply that amount by 100.

‍‍‍

For example, if you buy a €200,000 property and you can rent it for €1,000/month, the annual income would be €12,000(€1,000 x 12 months). We then divide this amount by €200,000 and multiply the resulting amount by 100. The result is a gross return of 6%.

However, this figure is not entirely accurate. We can get a more accurate one if we also take investment costs,fixed costs and maintenance costs into account in our calculations.

‍

How to calculate the net profitability of a rental property?

To calculate the profitability of a rental property more precisely, you must take into account the same factors that we have seen to calculate the gross profitability, but you have to add the investment costs to the price of the property and subtract the fixed and maintenance costs from the monthly rent.

What do these costs consist of? We explain them below.

‍

Investment (or transaction) costs:

These are those that are implicit in the purchase of a property and that must be added to the properties price:

• Notary fees.
• Transfer Tax (ITP), if it is second-hand, or VAT if it is new.
• Land Registry.
• Agency fees and commissions.
• Investment in refurbishment and furniture.

Fixed costs

These are the expenses that you are going to have to pay whether the property is rented. The fixed costs are usually:

• The ordinary Community of Owners' fee.
• The Property Tax (IBI).
• Minimum water, electricity, and gas services.
• Home insurance and others.
• Rent insurance.

Maintenance expenses

Here you must contemplate those expenses that are necessary to maintain the property in a good state of habitability,such as, for example:

• Unforeseen repairs.
• Spillages or extraordinary expenses of the Community of Owners.
• Cleaning expenses, repairs,painting, etc., once the tenant leaves the property.

At Holox invest we can help you to make an estimate of all these expenses involved in investing in a property to rent and we manage the process for you. Do not hesitate to consult our professionals to calculate the profitability of any investment.

If we continue with the previous example,let´s assume that ITP (transfer tax) is 7%, Agency fees 2%, Notary fees and Register 1%. Total transaction costs would then be €20,000.

To calculate the net profitability of the rental we will first have to add the investment costs to the purchase price,i.e.: €200,000 + €20,000, in total €220,000.

Then subtract the annual fixed costs, let’s assume 3,600€ and maintenance costs, 600€ from the expected annual income, the example would be €3,600 + €600 i.e.: €12,000 (€1,000 x 12 months) - €4,200(€300 x 12 months and €50x12 months) = €7,800

‍

Finally, to obtain the percentage that will tell us what the net profitability of renting the property in this example would be, we only have to divide the annual net income by the total price invested in the property and multiply that amount by 100. That is: €7,800 / €220,000 x 100, which gives a net profitability of 3.55%.

‍

How to calculate the net profitability with a mortgage?

But what happens if we have to take out a mortgage loan to buy the property? How do we then calculate the return on rent?

If we take a mortgage of €100,000 in our example, and our monthly mortgage payment is €500, this means €6,000 per year therefore, we must consider how much of this amount corresponds to interest,which is the cost of having a mortgage. This amount will have to be added to the fixed costs.

‍

Continuing with our previous example, let's imagine that of the €6,000 a year that we pay for the mortgage, about half corresponds to interest. We would then have to add €3,000 to our fixed costs(€4,200) go get €7,200 as total costs. The net rental return in this case would be the gross €12,000 minus all costs (7,200) for a net return of €4,800.

Then, in order to get a net rental yield we only have to divide the annual net income by the part of the price paid with the buyer's own funds (220,000-100,000= €120,000) and multiply that amount by 100. That is: €4,800 / €120,000 x 100, which gives a return of 4%.

As you can see, calculating the net profitability of a property with a mortgage is somewhat a bit more complex.

At Holox invest we can help you make all these calculations as all our models and algos are based on this analysis so that you can make the best investment in minutes.

Adding value: renovation and refurbishment

The best way to approach property investments using this method is to make assumptions over what is the potential rent you can get from a property after having purchased and make some work of renovation or reform or refurbishment. Our architects and interior designers can estimate for each property how much would be needed in time and budget in order to achieve a desired rental price.

Continuing with our example discussed so far, let´s assume that you can make a reform in the property for €15,000, which renovates very well your flat and can be let now for €1,200 a month. In this scenario, your total cost of the investment has been up-scaled to €220,000 +15,000 = €235,000, while the new gross rental income would be €1,200 x 12=14,400. Following the situation above, our new net annual rental before mortgage interest payment would be 14,400 – 4,200= €10,200 net rental return,minus mortgage interest payment of €3,000 = €7,200/135,000 invested owned amount, makes a net rental yield of 5,3%

With this layer of analysis, Holox Invest can evaluate scenarios where rental returns might become a much more attractive option by making a reform or refurbishing and by how much.

When you are in the hands of experts who can plan and execute well ahead, your probability to successful property investments is higher and higher!