Beyond Rental Yield: How to Answer the Question, “Is This Property Worth It?”

Beyond Rental Yield: How to Answer the Question, “Is This Property Worth It?”

2 min read
Drew Sygit

Drew is a classic overachiever, bringing intensity and passion to everything he does. While in the mortgage business, he rose to a VP position at the first broker he worked for and then started his own company.

Experience
In the pursuit of excellence, Drew obtained several mortgage designations and joined mortgage and several affiliate association boards. He also did WebX presentations and public speaking engagements. It was during this time, he started personally investing in single family rentals, leading him to start Royal Rose Property Management with two partners. He also joined the board of a local real estate investors association, eventually becoming its president.

The real estate crash led to an offer from the banking industry to manage a Michigan bank’s failed bank assets they acquired from the FDIC. The bank went on to eventually acquire four failed banks from the FDIC, increasing from $100MM in assets to over $2B while he was there. After that he took over as president of Royal Rose Property Management and speaks at national property management conventions.

Accreditations
Former board member of Michigan Mortgage Brokers Association, Financial Planners Association of Michigan & Mariners Inn (nonprofit)

Former taskforce Member of Michigan Association of CPAs (though not a CPA)

Involved in mortgage business for over 18 years, obtained mortgage designations: Certified Mortgage Planner, Certified Mortgage Consultant, & Certified Residential Mortgage Specialist

Board member of Real Estate Investors Association of Oakland; President since 2012

2009-2012 Shared-Loss Manager for Talmer Bank (now Chemical Bank) handling FDIC failed bank loan loss strategy, reporting, REO management, collections, & gap analysis

Started investing in real estate in 1996

President of Royal Rose Property Management since 2001

Education
Drew received an MBA from Wayne State University, concentration in Finance & Marketing.

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LinkedIn

www.RoyalRoseProperties.com

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For any given rental property, there is a single statistic that, in the end, is the defining factor of that property’s success: its rental yield. The rental yield of a property is calculated with a fairly simple equation:

Yield = (Annual Income-Annual Expenses)/(Cost of Property + Rehab)

Note that cost of property doesn’t include your mortgage payments — those are part of annual expenses. The cost of property does, however, include absolutely everything you will have to pay for before you can start renting the property out, including down payment, closing fees, costs of all renovations, costs of advertising… everything.

Here’s an Example

So let’s say you purchase a house for $120,000, but you only put $30,000 down. A typical 30-year mortgage at 4% would have you paying $420/month for the other $90k (this is NOT a rate quote APR, mortgage police!). Then you hire a property management company to handle the details for you, and they charge 10% of your monthly rent amount. You set your rent at a quite reasonable $1,000/month, so the property management company takes $100/month to take care of the house. You pay an additional $280/month for various forms of insurance, a rainy-day fund in case of emergencies, and basic maintenance costs.

Related: The Pivotal Factor You Probably Don’t Know to Watch for in a Rental Market

So now you know that your annual rent is $12,000, and your monthly expenses are:

$420 (mortgage)

– $100 (property management)

+ $280 (maintenance and insurance)

——————–

$800

x 12 (to arrive at annual expenses)

——————–

$9,600

So, you have $12,000 in predicted income minus $9,600 in predicted expenses, giving you a total of $2,400 for the top number of your equation. Since you paid only $30,000 down on your home but you also paid $3,000 in closing costs and $17,000 to renovate the kitchen, bathroom, it’s a total of $50,000 put in.

So your final rental yield is $2,400/$50,000, which divided out gives us a yield of 4.8%.

The Bigger Picture

Knowing the rough yield for a potential investment property is a must! However, it can also be very useful to find out data on historical yields in the neighborhood around your property. Here’s why:

  • A neighborhood that has yields of below about 4% tend to be mostly stable, with tenants that stick around. You can expect a longer average tenancy in a neighborhood like this — but of course, that low yield means a longer wait until you start profiting and less profit per year once you do clear that hurdle.
  • A neighborhood that has yields of above about 12% can be very difficult to keep tenants in. That high of a yield often means a very elastic housing supply, which means new options pop up frequently and people move more often — especially out of a rental and into an owned home. It can be hard to keep a rental home filled for a long time in such a neighborhood, which can make it meaningfully harder to actually get the yield predicted (because, of course, achieving the predicted yield means having a tenant for all 12 months).
  • A neighborhood in the middle — 5%-11% — is generally the best investment in terms of actually maximizing your return.

But keep in mind that we’re now talking about two different numbers — the average yield of the neighborhood is not at all the same as the predicted yield of your property. In the most ideal circumstances, you can match a property with a ridiculous predicted yield (like 16%-20%) with a neighborhood that has a low-but-still-safe average yield (like 7%).

Related: The Ultimate Guide to Analyzing Rental Properties (+ Free PDF!)

That won’t happen. If such a place exists, someone has already purchased it, guaranteed. But it’s the dream, the goal to which it is possible to aspire. This isn’t the last detail I’m going to share with you about yields, so for more of the ins and outs, be sure to check back next time! 

What questions and comments do you have about yields and evaluating properties?

Let’s discuss below!