Rental Yield: How to Calculate and Maximise Investment Property Returns

Property investment is one of Australia’s favourite wealth-generation tools. But how do you know if a property is a good investment? You can use many metrics to calculate the profitability of a rental or property investment. One of the most essential things your Sydney mortgage broker will do is calculate your potential rental yield.

This guide will help you thoroughly understand the basics of rental yield and what it means for your property investment returns.

What is Rental Yield?

Rental yield measures the difference between the income you receive from a rental property and the total costs of the investment. It is often expressed as a percentage of a property’s market value. For example, a property investor might say, “I’m happy with my investment. It gives me a 7% yield.”

Types of Rental Yield

There are two main types of rental yield: gross rental yield and net rental yield.

Gross Rental Yield

Definition: Gross rental yield is the total annual income from rent before expenses. It is measured as a percentage of annual rental income relative to annual costs or the property’s market value.

How to Calculate Gross Rental Yield

You can calculate gross rental yield using these 3 simple steps:

1. Determine the annual rental income from the property.
2. Divide the yearly income by the property’s market value.
3. Multiply the result by 100.

An example of how to calculate gross rental yield:

Jenny owns a Sydney rental property with a market value of $600,000. She rents it to a couple for $2,100 per month (or $25,200 per year). Following the 3 steps, we get the values needed to determine the gross rental yield:

1. Annual Rental Income: $25,200
2. Property Market Value: $600,000
3. Gross Rental Yield = ($25,200 / $600,000) x 100 = 4.2%

Jenny’s property generates regular income at a gross yield of 4.2%. That means for every dollar invested, the property returns just over four cents in rental income annually.

Net Rental Yield

Definition: Unlike gross rental yield, net rental yield accounts for property expenses such as maintenance, repairs, vacancy costs, strata fees, legal fees, and management fees. This provides a clearer picture of the investment property’s profitability.

How to Calculate Net Rental Yield

You can calculate net rental yield using these four easy steps:

1. Calculate the annual rental income.
2. Deduct all annual expenses to find the net rental income.
3. Divide the net rental income by the property’s market value.
4. Multiply the result by 100.

An example of how to calculate net rental yield:

Let’s use the example from above to determine Jenny’s net rental yield by accounting for her expenses, which are around $7,000 per year.

1. Annual Rental Income: $30,000
2. Net Rental Income = $25,200 – $7,000 (expenses) = $18,200
3. Property Market Value: $600,000
4. Net Rental Yield = ($18,200 / $600,000) x 100 = 3.03%

In this example, Jenny’s net rental yield is 3.03%. That means for every dollar invested, the property returns just over three cents in net rental income annually.

Rental Yield Calculator

Feeling a bit confused? If maths is not your strong suit, you can use an Excel spreadsheet or online tool to calculate gross and net rental yields. These tools simplify the process by allowing you to input data such as property value, annual income, and annual expenses and automatically calculate the yields. ING has a great free rental yield calculator on their website.

What Constitutes a Good Rental Yield?

How you define a ‘good’ rental yield depends on several factors, such as location and property type. To give you an idea, you can look at the average rental yield for residential properties in regional markets across Australia.

Typically, the gross rental yield ranges from 3% to 5%. According to the latest data from CoreLogic, the average gross rental yield in Australia was around 3.72% in June 2024. The gross rental yield for major capital cities was:

• 3.8% in Brisbane
• 3.6% in Melbourne
• 3.1% in Sydney

Commercial properties often offer higher rental yields and returns. Typical rental yields of between 5% and 7% make them attractive for property investors.

Factors Affecting Rental Yield

Looking solely at your rental yield percentage is a simplistic evaluation that won’t give you a true reflection of investment performance. You should account for these factors when considering what an excellent rental yield is:

Property Location

Rental yield largely depends on rental income and property value. Properties in prime locations typically demand higher rents, offering higher yields. However, they might also have higher property values, which affect the rental yield.

For example, Although Sydney’s rental prices have made headlines for soaring in the past 12 months, the city also boasts Australia’s highest property values, which reduces the rental yield. While other cities may have similar or slightly lower or higher rental yields on incomes, the rental yields in regional areas may be higher because of lower property values.

Property Type and Condition

The type and condition of a property can influence the rental income. Modern, well-maintained properties generally command higher rents, while older properties may require substantial upkeep costs, affecting overall profitability.

For example, What is considered a good yield for the same rent for a residential property in the same suburb of Melbourne may be considered a bad rental yield for a commercial property in the exact location.

If you’re unsure what type of investment home loans will suit your portfolio and financial situation, check out our guide on choosing the right investment property.

Market Trends and Economic Conditions

Market conditions like interest rates, inflation, and economic growth can impact rental yields. If you’re investing for rental yields, review it regularly as the market and economy change to ensure you’re still happy with your return on investment.

For example, High interest rates may reduce borrowing power, meaning fewer people can buy homes. This increases the demand for rental properties among non-homeowners, which drives up rental prices (and therefore increases the rental returns).

Expenses (Maintenance, Insurance, Management Fees, Vacancy Costs)

Property expenses directly affect net rental yield. Maintenance, insurance, and property management fees must be carefully accounted for to calculate net rental yield.

For example, Imagine owning an apartment in Brisbane that costs you $3,000 yearly in strata fees. The corporate body has decided to raise the fees to $3,500 a year due to increased maintenance costs for the building. As a result, your costs go up, so your rental yield decreases.

Tips for Maximising Investment Property Returns

If you’re not happy with the returns from your investment property, you can use a range of strategies to increase it. These include:

Renovations

Upgrading a property can increase its market value and rental income. Renovations such as updating kitchens and bathrooms, adding new features, or improving energy efficiency can justify higher rents. These cost money upfront but can generate a healthy return in the long run.

For example, Say you buy an old house in an up-and-coming suburb and renovate it extensively. The total cost of improvements means you can increase the weekly rent by 30%, resulting in a net rental yield rise from 3% to 5.5%. This strategy maximised both cash flow and the property’s market value.

Rent Reviews

Regularly reviewing and adjusting rent in line with market rates helps maintain a good rental yield. This strategy ensures that the property remains competitive and maximises income.

For example, your own financial situation. You’ve had the same tenant in your rental property for the past 3 years. You’ve kept rent at the same price during this time. After all, the tenants are clean and kind, and they give you a Gold Class voucher for Christmas every year. However, the average rent has increased by a whopping 27% during that time. Even if you raised rent by the average, you’d significantly increase your rental yield and return on investment.

Property Management

Managing a rental property on your own can feel like a full-time job. That’s why most property investors delegate to the experts. An effective property investor and manager can reduce vacancy rates, handle tenant issues, ensure timely maintenance, and optimise rental income to enhance the property investor’s rental yield.

For example, You own a rental property that you are managing yourself. You’re unsure how much to charge for rent. You decide on $300 per week. However, when you hire a property manager, they advise you that similar rental properties in the area earn higher rental income. Once the lease ends, you increase rent to $375, which boosts your rental yield.

Balancing Rental Yield and Capital Growth

While focusing on rental yield is important, you should also consider capital growth to maximise your returns over the long term. Properties in high-growth areas may offer higher rental returns at lower yields but provide substantial capital appreciation over time.

For example, Imagine you purchase a property in a regional mining town for $300,000. It gives you an annual rental income of $24,000 and a gross yield of 8%. This higher rental yield provides a steady revenue stream, although the property may experience little further capital growth potential due to its location. A prime location property with a lower rental yield may deliver higher long-term returns overall because it has greater potential for capital growth.

Common Mistakes to Avoid

Investing in rental properties can be a fantastic way to build wealth, but it has its pitfalls. Here are some common mistakes that can trip you up if you’re not careful:

Overestimating Rental Income

Overestimating potential rental income can lead to unrealistic expectations and financial strain. Conduct thorough market research and set realistic rental rates based on similar properties. If you’re unsure, your property manager should be able to help you with this.

Overlooking Vacancy Rates

Given Australia’s meagre vacancy rates, it’s hard to believe a rental property can remain without a tenant. In June 2024, vacancy rates were 1.1%, 1.5%, and 1.7% for Brisbane, Melbourne, and Sydney, respectively. Nonetheless, your rental property will likely be empty for short periods as markets fluctuate and tenants come and go. Make sure you factor in these potential vacancies when calculating your returns.

Underestimating Expenses

Remembering to account for all property expenses will result in an accurate assessment of net rental yield. You should consider costs such as:

• Property management fees
• Maintenance and repairs
• Strata fees (or body corporate)
• Legal fees
• Insurance
• Building inspection or pest control fees
• Potential vacancies

Typically, mortgage interest is not included when calculating net retinal yield, as it is a financial cost rather than an operating cost.

Ignoring Market Trends

Staying informed about market trends is essential for maximising rental yields. Ignoring factors such as changes in inflation, market demand, and economic conditions can lead investors to suboptimal property investment decisions. Regularly review your rental yields to ensure you’re still enjoying a good return on your property investment journey.

Conclusion

Getting a handle on rental yield is key to making smart property investments. You can hit your investment targets and grow a strong portfolio by figuring out gross and net rental yields, keeping an eye on market trends, and using strategies to boost returns. Don’t shy away from using tools or getting professional advice – it makes investing and navigating the property market easier and can seriously improve your financial situation and returns.

Frequently Asked Questions (FAQs) About Rental Yield

1. What is rental yield, and how do I get higher rental returns?

It’s simple to calculate rental yield. It’s a measure of a rental property’s return on investment. It is calculated as the annual rental income divided by the property’s market value, expressed as a percentage. Rental yield is important because it helps investors assess a property’s profitability, compare different investment opportunities, and make informed decisions.

2. How do you calculate gross rental yield?

To calculate gross rental yield, divide the annual rental income by the property’s purchase price or market value and multiply by 100. For example, if a property generates $20,000 in annual rental income and costs $400,000, the gross rental yield would be ($20,000 / $400,000) x 100 = 5%.

3. What is the difference between calculating gross rental yield and net rental yields?

Gross rental yield does not account for expenses and only considers the annual rental income relative to the property’s value. On the other hand, net rental yield deducts expenses such as maintenance costs, insurance, and property management fees from the annual rental income, providing a more accurate measure of the property’s profitability.

4. What expenses should I consider when using rental return and calculating net rental yield?

When calculating net rental yield, consider maintenance costs, property management fees, insurance, taxes, strata or body corporate fees, potential vacancies, and any other costs associated with managing the property. These expenses should be deducted from the annual rental income to determine the net rental yield.

5. What is considered an excellent rental yield, and how much income is needed for an investment property?

An excellent rental yield typically ranges from 4% to 6% for residential properties, depending on the location and property type. For commercial properties, yields above 7% are often considered attractive. However, what constitutes a good yield can vary based on market conditions, investor and investment goals, and the specific property’s characteristics.

6. Can rental yield change over time?

Yes, rental yield can fluctuate due to changes in rental income, property value, and expenses. Market demand, economic conditions, and property upgrades can influence rental yields. Investors must regularly review and adjust their rental income expectations and strategies accordingly.

7. How does property location affect rental yield?

Location is a critical factor in determining rental yield. Properties in prime locations, such as major cities or near amenities, typically command higher rents and offer better yields. Conversely, less desirable or rural properties may have lower rental demand and yields despite potentially lower purchase prices.

8. What is the impact of capital growth on rental yield?

Capital growth refers to the increase in a property’s value over time. While high rental yield focuses on income, capital growth contributes to the overall return on investment. Properties in high-growth areas may initially offer lower rental yields but provide significant capital appreciation. Balancing high rental yield and capital growth is crucial for long-term investment success.

9. Is negative gearing related to low rental yield?

Negative gearing occurs when the costs of owning a rental property exceed the rental income, resulting in a tax-deductible loss. While negative gearing can affect cash flow, it is a separate concept from rental yield, which explicitly measures rental income relative to property value. Investors may use negative gearing to offset income tax liabilities, but it should be considered within the broader context of their financial strategy.

10. How can I maximise my property’s rental yield and ongoing return?

To maximise rental yield, consider strategies such as property renovations to increase rental value, regular rent reviews to stay in line with market rates, and effective property management to keep overall costs and minimise vacancies and expenses. Additionally, staying informed about market trends and maintaining the property’s condition can help attract and retain tenants, enhancing overall returns.