Determining the cash flow of your investment property will allow you to forecast its long-term profitability.
Blogger: Daniel McQuillan, executive director, Investwise
With rental growth now at record lows for residential property in major Australia capital cities, finding properties that will deliver high rental growth as well as capital growth is now a key priority for investors.
This is particularly the case following recent rises in interest rates rates for investors, which will have an negative impact on their cash flow.
The current property market can be an minefield for first-time investors due to the current weakness in the rental market especially in areas such asand Darwin.
First-time investors need to approach the issue of rental returns very carefully and be able to understand how to select properties that will deliver higher rates of rental returns.
Determining the rental return for an investment property is important first step when deciding how much an investor is prepared to pay for the home.
Many first time investors do not know how to determine the rental return of an investment property they are considering buying even though this is critical information when determining if the property offers better or worse value for money than other investment properties in the local area.
One of the most common mistakes investors make is to pay too much for an investment property because they do not fully understand the importance of rental returns.
There is a very simple technique to determine the rental return of an investment property. The investor simply multiplies the weekly anticipated rent by 52 to establish the gross income for the year and then divides that sum by the purchase price.
The final figure will be your gross rent return. Multiply this by 100 if you wish to express this as a percentage. For example, $450 per week rent on a $500,000 property shows a 4.68 per cent gross rent return. The sum is worked out as follows:
$450 (per week) x 52 = $23,400 divided by $500,000 (purchase price) = 0.0468 and multiply this by 100 = 4.68%.That is at the end of the year you will have received a 4.68 per cent gross return on your $500,000 purchase price. If you do this for each of your alternative property choices, you will quickly see which one is the best investment.
This technique can quickly help first-time investors determine if an investment property offers positive or negative cash flow depending on the current interest rates.
Rental return is the cash flow that a rental property is able to deliver the investor and it will help determine the long-term profitability of the investment property as well as the ability of the investor to purchase additional properties.