It all started when my friend and I were discussing about this topic and it leads us to think of how we determine rental yield. To me, value investor invests mainly for good and stable yield. I would compare good yield as something that is comparable to average SREIT yield (ard 5-6%). Appreciation (or growth) comes as a bonus.
I find few formulas on rental yield in the web but none of them satisfied me as being accurate or meaningful enough. The one I came by does not take into account on mortgage installment and how it affects the calculation of rental yield.
In summary, my formula looks like this.
Annual Rental Yield = (Annual Rental Income – Annual Rental Cost) / Cash Invested
Here are items, which are not exhaustive, in each component of the formula.
Annual Rental Income
- 12 months rental fee
Annual Rental Cost
- Mortgage installment (Interest paid)
- Vacant cost
- Property tax
- Agent fee
- Management fee
- Internal property maintenance cost
- Down payment
- BSD and ABSD
- Legal Fee
- Mortgage installment(Capital paid)
You might have noticed I have splitted the mortgage installment to “Interest paid” and “Capital paid”. To me “Interest paid”, which is interest charged by bank for your mortgage, is an expense you incurred and I lump it under rental cost. “Capital paid” in the other hand is the amount you further invest into the property, something like a premium you pay in an insurance policy. I lump this under cash invested by you.
If you can derive all the values listed above and normalize them to an annual amount, you will be able to get the annual rental yield of a particular year. Yes, of a particular year. Your rental yield will change each year as the (1) amount of cash invested will grow, (2) you will need to consider rental income increase (assuming property value increase over time in general) and (3) rental cost increase (except for the interest paid part) due to inflation. With this in mind, a graph should be plotted on few key data over time, such as rental yield and amount of cash invested.
I will illustrate a sample case study in calculating rental yield for a Singaporean in my next blog.