Calculating Rates of Return on Property Investment
When you decide to invest in property, being able to objectively asses the kind of return on property investment you can expect and the actions needed to achieve them are the cornerstones of a successful strategy.
There are three main kinds of return:
Property yields are commonly calculated on an annual basis on properties that are let to tenants. The Gross Yield is the return on property investment you can expect before costs. If, for example, you buy a property for £100k and rent it out at £150 per week your annual yield would be £7800, or 7.8%.
However, Net Yield calculations which take into account your costs are more realistic measures of investment success. Any expenditure on property improvements, Stamp Duty, legal and agency fees should be deducted to give a more accurate forecast of your return.
The cost of purchasing and preparing a property for tenants often means that your expenses are higher in the first year of investment than subsequent years, so it’s wise to forecast your net yield over a period of 5 years or more to calculate the return.
Income tax will be due on your rental income, but any initial losses you make can be carried forward into coming tax years to reduce your tax bill.
Equity is the difference between a property’s market value and any loans secured against it, and although it is not, strictly speaking, a return on your property investment, it is an asset which you can use to finance further investments.
Let’s assume you buy a property now for £100k with a 25% deposit. The portion of the property you actually own equates to £25k in equity, £75k (75%) remains in loan debt.
To increase the equity, you can reduce the debt secured against it through loan repayments, actively increase the property’s value or passively wait for the market inflation to increase it for you.
Current market predictions indicate that a property you buy now for £100k could increase in value by 19.3% in the next five years. You will then own 25% of a property worth £119,300, giving you an increased equity stake of 37% or £44,300. By finding opportunities to invest in repossessed properties or other assets such as off market properties, you can reduce the initial price you pay, and substantially increase the gains as the market improves.
The amount of equity you can withdraw will vary from one lender to another but very few will agree to 100%; to achieve that, you would need to sell the property and withdraw funds through Capital Gains.
Capital Gain is the profit made on an investment after costs. Much like equity, your rate of return of property investment will be determined by your investment strategy; you can actively add value to a property through renovation and refurbishment in the short-term, or passively add value through market inflation in the long-term.
However, unlike equity, any Capital Gains you make are subject to tax; 18% for basic rate taxpayers and 28% for those on a higher rate. It’s important to assess whether you’re financially better off maintaining the property as an asset, or whether you could achieve better returns by investing your gains in a new venture.
Whichever approach you take, remember that no rate of return is guaranteed. Your investment is subject to market forces beyond your control but with a well-informed investment strategy, you can limit the risks and maximise your gains.
The experienced investment advisors at National Property Portfolio can help you assess the potential rates of return of an investment opportunity and develop a strategy to achieve the most profitable outcomes.
To find out more about your opportunities to build wealth through property investment, simply call our team on 0800 321 3975.