What Can You Expect to Earn from a Rental Property Investment?
Rental property is a lucrative and stable investment strategy, so much so that more and more people are choosing to invest in buy-to-let property every year. In fact, many consider investing in a rental property to be one of the best real estate investments available.
Depending on where you invest, you could be in line to make a serious long-term profit from your rental property, but there are multiple factors to consider which will affect how much profit you make.
When asking how much profit should you make from a rental property, there are numerous things you need to consider. We’ll break those down for you in this blog, as well as go over how you make a profit from a rental property.
We will also discuss the average profit on a rental property as well as what can affect it.
Let’s get into it.
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How Do You Make Profit From a Rental Property?
Buy-to-let investors make a profit from their rental properties in two main ways:
1. Rental Income
Rental income is collected from the tenants that live in a rental property regularly. This gives investors a consistent passive income that forms a regular cash flow.
This often forms the backbone of many property investments due to it being a regular payment made to investors and is used by many to pay off buy-to-let mortgage payments and to cover repairs and costs that come with running a rental property.
Rental income is taxed, as it falls under income tax. How much of your rent is taxed depends on what tax bracket you fall under, with additional rate and higher rate taxpayers paying more than basic rate taxpayers.
2. Capital Appreciation
Property rises in value over time, and capital appreciation represents the profit that investors make from the increased value of their property.
Given that many investors choose to hold onto their investment properties for a long time to make the most of rental income, this is often a major profit that is made.
Unlike rental income, which is a regular cash flow of passive income, capital appreciation is paid to investors as a lump sum upon the sale of their property. Because of this, it is usually a far larger single amount of money than what rental income provides.
Capital gains tax is taxed on any profit made from the sale of a physical asset, and rental properties fall into this.
Because of these two separate methods of generating profit, real estate investing is one of the most lucrative investment classes in the UK, especially when you take into account the security you get from investing in a physical asset such as property.
Read our helpful guide on how to make money from property for more information.
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How to Calculate Profit on a Rental Property?
Profit from a rental property is calculated in different ways depending on the type of income you want to use.
Rental yields are how we calculate the profit investors make from rental income. This is represented by a percentage value that represents a year-on-year return from the cost of your initial investment.
This is calculated using the annual rental income of your buy-to-let property, which is divided by the cost of the property itself and then multiplied by 100 to give you a percentage value.
For example, a 5% rental yield would mean you will make 5% of your investment back each year, so after 20 years you would have made your initial investment back solely through rental income.
There are two kinds of rental yields which you can find. Gross rental yields only take into account the rental income and cost of the property, whereas NET rental yields will also use the operating expenses of the property if these are known. This could include bills, insurance, repairs or services such as management fees charged by property management companies.
NET yields are more accurate, which means they are often preferred by investors as they provide a clearer picture of the kind of returns you can expect from a rental property as they take into account the net operating income you need to spend each month.
To calculate the profit you make from capital appreciation, simply get a valuation of your rental property and subtract the purchase price of your property. You can use this figure to work out a percentage profit, or simply use the cash to indicate how much profit you will make.
For example, if you bought a rental property for £200,000 and get a valuation of it which comes to £250,000, you would make a profit of £50,000 or 25% of your initial investment.
For an overall cash-on-cash return to work out a net profit, you will want to look at the income you make from rental income over time as well as the estimated potential profit you will make from capital appreciation.
You can do this if you have access to the expected rental yield for your property, using this to calculate how much of a percentage return you will make on your initial investment.
To try and predict capital appreciation, check predictions by sites such as Savills or JLL. These property experts publish five-year forecasts that give investors a good idea of how house prices will rise or fall in the future, based on market trends.
For example, if you buy a rental property in Liverpool with a projected 5% rental yield for £200,000, you can look at the residential property market forecast from Savills to see how house prices in the North-West will grow. The current prediction for 2027 is that prices will grow by 11.7% in the North-West, giving you an estimate for capital appreciation.
Putting this information together, you can determine that over five years, you can anticipate around a 37% profit on your investment if you chose to sell your property after five years, combining the rental yield for five years worth of rental income with the projected growth of house prices in the area.
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How to Work Out Profit on a Mortgaged Rental Property
Many who invest in rental property investment will borrow a buy-to-let mortgage to do so, and if you want to accurately work out your profits you should take this into account.
Buy-to-let mortgages are different from residential ones, as you pay off the interest as your mortgage repayments each month. At the end of the mortgage’s term, you will either repay the lender in full or remortgage the property.
With that in mind, use the interest rates for your mortgage and work out how much your repayments will be each month, and subtract them from your rental income when calculating your rental yield.
This will give you an accurate indication of how much profit you should make on a mortgaged rental property.
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How Much Profit Should I Make on a Rental Property?
How much profit you should make from a rental property will depend on where you choose to invest, as well as what you invest in.
Generally speaking, the average profit on a rental property will differ depending on where the property is located. Given that every city in the UK has variations in property prices as well as rents, the average profit on a rental property will differ.
On a national average, a rental yield of around 4-5% is considered the average profit on a rental property from rental income, as this will give you a solid return on investment.
Some cities with higher property prices, such as London, have lower average rental yields due to the higher price of housing.
The opposite is also true, with cities like Liverpool having higher average rental yields based on the fact that property is far more affordable here than the national average. This is one of the reasons why Liverpool is often considered the best place to invest in property in the UK.
In general, it is best to try and find above-average rental yields to ensure you are making a strong return on your investment. A yield of 6-7% will bring you higher rental profits on your rental property, and is, therefore, something you should try to seek out.
For capital appreciation, you should expect the average profit on a rental property to be in line with forecasts for the area you are investing in.
You can also look at the House Price Index from the Land Registry and Zoopla to see how prices are currently growing, as this will give you a good indicator of if your property is rising in value in line with the area around you.
That means if your property has not risen in value in line with projections of market value, you may need to look at reasons why this could be the case.
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What Affects How Much Profit You Should Make From a Rental Property?
There are multiple factors which affect how much profit you should make from a rental property, so let’s discuss them here:
Location
One of the biggest factors that affect profit from rental properties is where the property is located. As mentioned earlier, property prices fluctuate depending on where they are located.
The location also affects rental yields as rents can change depending on what is around the property. A one-bedroom flat in a city centre is more likely to have higher rents than a similar property in a small town, as there is far more on offer in terms of jobs and opportunities that will appeal to tenants.
The rental market of major cities like Manchester and Liverpool is currently thriving because of high demand, meaning properties in these areas usually have higher rental yields than competing areas in the UK.
This will drive up demand, a consequence of which is increased rents. It will also mean there will be fewer void periods, which is important for real estate investors as this means less chance of no rental income.
Generally speaking, you want a combination of affordable property prices, high rents and high demand, as this will mean you can expect higher rental yields from your property.
Type of Property
The type of property you are investing in will also affect how much profit you can make, as different properties will be able to charge higher rents. This is why choosing the right property to let out is so important.
As a rule of thumb, the more bedrooms in a property, the higher the rent you can charge. This means flats with multiple bedrooms or houses of multiple occupancy (HMOs) will be able to charge more rent than studio flats or single-bed apartments.
However, the larger the property, the higher the costs for investors, so owning a larger investment property may not necessarily mean higher profits.
You will need to balance the cost of the property against the potential rents, so in this case, look at the rental yields. If a more expensive property has high rental yields, this will mean more profit in real-money terms.
Condition of the Property
Renters won’t want to pay top-dollar for run-down properties, and so the condition of your rental property will play a huge factor in the amount of profit you can make.
Owning a rental property that needs repairs or renovations will mean having to put more money into it after you buy, which will eat into your potential for profits and lower your rental yield.
As well as this, older properties tend to have cheaper rents, so you will be collecting less rental income each month from your tenants.
With this in mind, it is often better to invest in new-build properties, as these are not only more popular with tenants but are often able to have higher rental yields. There are fewer costs after purchase as well, so you won’t have your profits eaten into by unexpected repairs or renovations.
There are other factors which may determine your profit, but these are the three main ones.
If you are not receiving a positive cash flow from your investment, or your returns are not what you are expecting, review these aspects of your property as they may be holding you back.
If an investment is consistently underperforming your expectations, it may be time to sell and move onto a different rental property.
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How Much Rent Should You Charge?
Given that rental income will form the backbone of your profits until you decide to sell, deciding how much rent you want to charge is a very important decision for investors.
While it can be tempting to charge as much rent as possible to achieve a high rental yield, you have to follow rental market trends to avoid pricing people out of your property.
Try looking on property portals such as Rightmove and Zoopla to see what rental properties close to where your property is located are charging. Be sure to compare properties similar to yours, in terms of size, location and condition.
This will give you a rough estimate of how much you can realistically charge.
Remember – although high rental yields are ideal for ensuring you get strong profits, it may not always be possible.
For example, finding a high rental yield in London would be difficult as property prices in the capital are so high, and so charging enough rent to create a high yield would price most potential tenants out of renting your property.
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Invest in Rental Property With RWinvest
RWinvest is one of the most experienced and respected names in the property investment sector. With 20 years of experience and numerous award wins to our name, it is easy to see why.
Our track record is valued at over £1 billion, with over 120 completed projects launched and thousands of investors having chosen to work with us.
With dedicated teams working night and day to make your investment journey as smooth as possible, as well as some of the most exciting buy-to-let investment opportunities in the UK, it is understandable why we have such a successful history.
Our current stock of investment properties covers some of the most exciting rental markets in the UK, such as Liverpool and Manchester, and has the ideal combination of affordable prices, high rental yields and popular locations to make for very profitable rental properties.
Contact us today to arrange a call with one of our team, where we can help you understand how much profit should you make from a rental property and why we can help you achieve financial freedom through property investment.
For more property investing tips, take a look at our helpful guide today to help you get ready for your investment.
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