Make sure a prop­erty in­vest­ment will add up for you

Get the maths right if you are plan­ning to be­come a buy-to-let land­lord, warns in­vestor and let­tings spe­cial­ist Gra­ham Bates.

Yorkshire Post - Property - - PROPERTY -

IF you are a sea­soned land­lord, un­der­stand­ing in­come yields and analysing re­turn on in­vest­ment may well be sec­ond na­ture. How­ever, if you are rel­a­tively new to the buy-to-let game or con­sid­er­ing your first res­i­den­tial prop­erty in­vest­ment, you may not yet fully ap­pre­ci­ate how im­por­tant th­ese num­bers can be to the over­all success of your bricks and mor­tar in­vest­ment strat­egy.

While we have been con­di­tioned to be­lieve that the most im­por­tant as­pect of any prop­erty pur­chase is “lo­ca­tion”, the re­al­ity is that it is al­most al­ways the maths which truly de­ter­mines whether you are look­ing at a good long-term in­vest­ment. Although there are some ex­cep­tions to this – more of which later.

Let’s fo­cus ini­tially on the key ter­mi­nol­ogy and what it means. When it comes to buy­ing prop­erty as an in­vest­ment, you should al­ways start by cal­cu­lat­ing the Gross In­come Yield. This is a rel­a­tively sim­ple cal­cu­la­tion whereby you di­vide the to­tal an­nual rent you ex­pect to achieve from the prop­erty by the to­tal amount you are paying to buy the prop­erty in the first place.

Re­mem­ber the true cost of buy­ing a prop­erty in­cludes any stamp duty, sur­vey and le­gal fees as well as the cost of any works re­quired be­fore you can let it. As an ex­am­ple: You pay £150,000 to buy your in­vest­ment prop­erty. You gen­er­ate Gross An­nual Rent of £9,600 per an­num rent so £9,600 / £150,000 = 6.4. From this cal­cu­la­tion, you can see that your Gross In­come Yield is 6.4 per cent per an­num.

At first glance, this might seem to be an ex­cel­lent po­ten­tial re­turn, es­pe­cially given that any fu­ture cap­i­tal growth has not yet been taken into ac­count and set against a back­drop of poorly re­turn­ing cash de­posits.

How­ever, gross in­come yields do not take ac­count of the costs of run­ning a buy-to-let in­vest­ment so this is not the re­turn that will end up in your pocket. It is im­por­tant to take ac­count of all costs, in­clud­ing in­surance and re­pairs, ser­vice charges, which ap­ply if you buy an apart­ment, to­gether with man­age­ment and let­ting fees.

Also re­mem­ber that all land­lords ex­pe­ri­ence some ren­tal voids – pe­ri­ods when the prop­erty is not let – and to be sen­si­ble you should fac­tor in at least four weeks of the year when you may have no ren­tal in­come.

Although costs will clearly vary de­pend­ing on the type of prop­erty you are buy­ing, as a gen­eral rule of thumb, you should as­sume that 30 per cent of your rent will dis­ap­pear in over­heads.

Once the rel­e­vant run­ning costs have been fac­tored in, you can see what you ex­pect to be your Net In­come Yield, which is far more im­por­tant than the gross fig­ure you started with.

So if gross an­nual rent is £9,600 and run­ning costs are £2,880, net an­nual rent is £6,720 and this di­vided by the £150,000 pur­chase cost is a Net In­come Yield of 4.48 per cent per an­num.

The net re­turn may still look healthy rel­a­tive to other in­vest­ment op­tions, es­pe­cially if you are get­ting just one or two per cent gross in­ter­est on your cash sav­ings, but re­mem­ber, if you are bor­row­ing some of the cost of pur­chas­ing your buy-to-let prop­erty, you need to be sure that your net in­come will ad­e­quately cover your re­pay­ments.

In most cases, this will mean that you will be re­stricted by the amount you can bor­row – but this is no bad thing. While less trust­wor­thy sales or­gan­i­sa­tions might tell would-be prop­erty in­vestors that mil­lions can be made with lit­tle or no funds to put down, this is non­sense and un­less you have 30 to 40 per cent of the pur­chase price, it is likely that you are not ready to be­come a prop­erty in­vestor, so keep sav­ing un­til you have the funds avail­able.

Not­with­stand­ing that the pro­jected net in­come re­turn is the most im­por­tant fig­ure you need to cal­cu­late be­fore you buy, gross re­turns can pro­vide an im­por­tant guide to the qual­ity of the in­vest­ment op­por­tu­nity you are con­sid­er­ing.

Although there are ex­cep­tions to ev­ery rule, the higher the gross in­come yield, the more re­stricted your po­ten­tial fu­ture cap­i­tal growth might be.

Equally, the re­verse of­ten ap­plies and if you have a lower gross yield, it can be be­cause the prop­erty is bet­ter lo­cated and of bet­ter qual­ity with more po­ten­tial up­side in the fu­ture cap­i­tal value.

While not wish­ing to com­pli­cate mat­ters, a low gross in­come yield can, of course, sim­ply mean that the prop­erty is over­priced – this is com­mon­place and one of the main rea­sons why, un­less you are al­ready a savvy prop­erty in­vestor, sound prop­erty ad­vice can be worth its weight in bricks.

You may of course be lucky and find a prop­erty with a strong in­come yield in an ex­cel­lent lo­ca­tion. This is what you are really search­ing for and it is pos­si­ble but there are al­ways com­pro­mises. Just get the maths right.

Gra­ham Bates is chief ex­ec­u­tive of Ed­dis­ons Res­i­den­tial Lim­ited, Leeds. Ed­dis­ons City Rentals di­vi­sion let­ting agents is at www. ed­dis­ons.com/cityrentals

HOUSE OF FUN: “Colvilla” boasts a swim­ming pool and a tim­ber lodge that can be used as an of­fice or a guest suite. It was built by Robin Colvill, one half of the com­edy band The Grum­ble­weeds, and has been up­dated by the present own­ers to a much more con­tem­po­rary style from its 1970s ori­gins.

TAKE CARE: A buy-to-let prop­erty can be a good in­vest­ment if care­ful at­ten­tion is paid to the math­e­mat­ics be­fore a pur­chase is made.

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