When estimating the rental return of your investment property there are two key things to look at. First, the rental rate you can charge in the current property market. The second is how this rental income determines the return on your investment.
Estimating the rental return of a property will help you make smarter decisions as you grow your portfolio.
What is rental return of a property?
Several additional factors are considered when estimating the rental return of a property.
Unlike your own home, your buying-decision is based on your longer-term investment strategy, not the property you can imagine yourself living in. You want to ensure that you’re building your portfolio with diversified and profitable assets.
There’s no one way to do this. It requires a holistic approach and a lot of research. Here are three methods that can help estimate the rental return of a property.
Rule of thumb
This method is fairly self-explanatory. All you need to do is look at similar properties in the area and find out what their advertised rental rates are.
While this isn’t the most scientific method, it’s an easy way to get a ballpark figure. If you’re already renting a property in the area and there’s a big difference between your rental rate and other similar properties, it may indicate that you are overcharging or missing out on a higher cash flow.
Yield measures your return using the property’s annual rental income and the property’s value.
Yield can be measured as either ‘net yield’ or ‘gross yield’. Net yield is the most accurate as it takes into account the property’s expenses. Determining what a ‘good’ net yield is depends on the location of the property. CoreLogic’s May Hedonic Home Value has found that gross rental yields in our capital cities range between 2.9 and 5.8 per cent, and between 4.5 and 6.7 per cent in regional areas.
Yield can tell you a number of things about the price of a rental property. For example, the location of a property can affect yield as a more desirable area usually commands a higher price and results in a lower yield.
Gross rental multiplier
Gross Rental Multiplier (GRM) is a common market analysis method used in the initial stages of researching an investment property.
The GRM is a ratio of the price of the property and its gross annual income. This ratio represents the number of years it would take for the income to pay for the property. The lower the GRM, the more appealing the investment property is.
The GRM isn’t the most accurate method however it’s a helpful, quick analysis tool that can give a surface-level idea of the return of investment. When searching for an investment property, you are often looking at many at once. Using the GRM can indicate whether you should prioritise properties above others or if further research is required.
|In practice: using the GRM method
James is looking to buy his next investment property. He is researching a number of properties and just added a new one to the list.
The property is valued at $900,000 and the rental appraisal indicates a potential weekly rental rate of $650, $33,800 per annum. Before doing more research, he uses the GRM method.
$900,000 ÷ $33,800 = 26.6 GRM
The GRM of 26.6 is much higher than James is looking for. While he doesn’t rule out this property completely before doing more research, he keeps this in mind especially when negotiating prices on the same or similar properties.
It’s important to look at several factors before making an investment property decision. Investing in property is a long-term strategy, but the market does fluctuate. Therefore its important to keep eye on the market and regularly compare your rental return.
Get the most out of your investment property with the right team. Your accountant and property manager aren’t the only essential members. A specialist quantity surveyor, such as BMT Tax Depreciation, will make sure you boost your property’s cash flow with depreciation deductions.
To learn more about property depreciation, contact BMT Tax Depreciation on 1300 728 726 or Request a Quote.