Is the rental yield necessary to determine the quality of a real estate investment?
How to determine if your real estate investment is a good one? You can trust your sixth sense, or on the contrary, you can try as much as possible to measure the quality of your real estate investment project through its performance.
The rental yield. This is probably the best known indicator. It allows to measure if a real estate investment is profitable but does it give an objective vision? The answer is: YES … Provided that you take into account all the data that can increase income or expenses.
The gross yield. You have probably already heard of the gross yield, a simple calculation that allows you to quickly calculate the sum of the annual rents on the price of the apartment.
Gross yield formula :
((Monthly rent x 12 months) / Purchase price of the apartment) x100
It does not present a great interest because let us imagine an apartment whose rent, relatively high, generates a good gross return whereas the loads of joint ownership and the property tax are crushing. Would that make it such a good investment? Yes, No ? It is necessary to deepen the calculation.
In effect, the purpose of the return is to determine how much money goes to the landlord once the entire rental process is considered.
The net return. It is the same formula as the gross yield to which we add all the charges that degrade the rental income, they are sometimes numerous but it is important to consider everything so that the calculation is as fair as possible.
Once the result is obtained, one can compare different opportunities on the market.
Net Return Formula :
((Monthly rent x 12 months) – (annual fees and charges)) / (Purchase price of the apartment + (annualized acquisition fees and credit costs))
Annual fees and charges to be considered:
Non-occupant owner insurance
Condominium fees charged to the owner (a portion is charged to the tenant)
Agency fees for rental management
Annualized furnishing cost (if furnished)
Financing acquisition fees :
Annualized real estate agency fees
Annualized notary fees
Annualized interest amount
We also recommend that you smooth out over a given period of time the exceptional expenses that should not be accounted for over one year but rather over a defined period of time (agency fees, notary fees, furniture).
Make sure you always consider the same types of loads so that your calculations are comparable to determine the best return.
Many investors are satisfied with a net return calculation as one of the decision factors for their project. It is true that the latter represents a good indication of the profitability of an investment and the calculation is very quick to make.
The net/net return. You have calculated a net return and you think you have found the right property for your investment project. However, take the time to do some additional calculations to make sure your choice is the right one.
The last criteria we recommend you to integrate in your thinking are :
Taxation applied to your rental income (land or BIC)?
Potential exemption of a capital gain on resale?
Estimated capital gain in 5 years, 10 years. (Get your crystal ball ready!)
Liquidity of the property at the time of resale
Risk of rental vacancy
Taking into account the law on rent control (properties in tense areas or in Paris)
Return on your collateral in case of debt financing (in case of collateral)
Taxation of rental income. The taxation is very variable concerning the incomes resulting from rentals, if the housing is empty or if it is declared furnished, if you are resident for tax purposes in France or abroad, according to the amount of the perceived rents, etc… It is necessary to make a personalized analysis of your situation to be able to be directed towards the good project
Potential exemption of a capital gain at resale. Depending on your profile or on the property, you may meet one of the criteria for exemption from capital gains tax, which is a considerable advantage when making a decision since it allows you to make savings that can be substantial. You can find all the conditions of exemptions here
Estimated capital gain in 5 or 10 years. No one knows at the moment what the future will be like and what the price curves will be in France. It is up to each person to make up his or her own mind, and this question brings us back to the philosophical question: does the past allow us to define the future?
Liquidity of the property at the time of resale. This is a difficult element to assess but it is important when it comes to investment, you must be sure that when you want to sell your property at the market price in the years to come, it will find a buyer quickly.
Risk of rental vacancy. The objective is that your property is rented without any vacancy period, if you have to change tenants several times it will cost you the loss of earnings but also the agency fees that will degrade your profitability.
In Paris, the possibility of adding a rent supplement to apartments subject to the ALUR law will allow you to optimize your income, but you still need to be able to justify this supplement and have it accepted by the tenant.
Interest of the pledge. We have seen in the article » Being a non-resident and obtaining a real estate loan in France » that it is quite possible that your banker will make you a financing proposal in exchange of a pledge placed in the bank’s books. Yes, but at what rate? This invested money will generate a return that should allow you to minimize the cost of credit, so it is important to take it into account!
Obviously, this whole process requires professional guidance to ensure that your structuring is optimal and your return is the best possible.
However, have this open mind that will allow you to see that a good return in real estate is not necessarily directly related to the building but to everything that revolves around it.