Getting started with Buy-to-Let (BtL) investing can be a thrilling journey towards financial growth, but it all begins with the crucial task of finding the right investment property. In this beginner’s guide, we’ll walk you through essential considerations that will help you make informed investment decisions.
From evaluating rental yield and total returns to understanding local property price growth and the potential benefits of adding rentable rooms, we’ll cover it all (with examples!). By the end of this guide, you’ll be well on your way to embark on your BtL investment journey with confidence.
Property Yields and choosing a property
The first step in starting your BtL career is understanding how your potential investment property will perform against other investment properties. The standard way to make this initial assessment is to calculate the rental yield and total return for all potential property investments and compare.
Rental yield is a year’s worth of rents over the purchase price of the property. Total return of a property is the same calculation, but including a year’s worth of property price growth in the yield calculation. Both of these figures will typically produce a number between 2-8% depending on the local market.
Example: If a property generates £10,000 in annual rent and costs £200,000, the rental yield is 5%.
Rental Yield = (Annual Rent / Property Purchase Price) x 100%.
Example: Suppose the above property appreciates by £10,000 (or 5%) in a single year, with an original purchase price of £200,000. In this case, the total return, including capital appreciation, is 10%.
Total Return = [(Annual Rent + Capital Appreciation) / Property Purchase Price] x 100%.
In addition to using these metrics to decide on which property to purchase, you can also use them to decide where to purchase, this because local property markets often lean towards generating high rental returns, or high capital appreciation.
While rental yield is a short to medium term assessment of investment value, total return is a medium to long term assessment of a properties investment value. And so depending on your investment strategy, i.e. how long you intend on holding the property and whether you want to build cash or assets, you can choose to prioritise either rental yield or total returns.
Local Property Market
Now that you’ve identified a few areas and potential properties to invest in, it’s time to look at local property price growth (also referred to as capital appreciation) in our chosen areas. Price growth varies greatly by region, town and property type and using the wrong price growth can lead you to picking the wrong investment property; especially if you’ve chosen a medium to long term investment strategy.
Given the importance of accurately assessing the potential property price growth of your investment, don’t simply look at what happened the prior year and assume that trend will continue to happen into the future! As a single year of growth could be an irregularity, especially in smaller property markets where few properties are being sold or if you’re using the mean property price (as opposed to the median property price).
Price growth can also vary significantly by property type within a given area, with those differences potentially obscured by the headline figure. With all of that said, try to look at the average change in the median property price in your area over at least five years. This should give you the most accurate view of the price growth you can expect for your investment property in the future.
Example:Take property price growth in the London Borough of Lewisham over the last five years. The average property price growth across all property types was about 1.7%. However, for flats it was negative -0.4%, with other properties growing by around 3.5% per year on average!
Additional Yield per Room
Yet another factor you may want to consider in your hunt for an investment property is the number of rentable rooms. In most property markets around the country, adding an additional room to your property can increase your rental yield for a given property price, making it a smart investment choice!
To assess, we need to look at the rents gained relative to the additional price paid for the property. If the investment meaningfully adds to the rental yield (any positive increase is good but the higher the better), then you can be sure adding an additional room is a worthwhile investment!
Example:Comparing a 2-bedroom property with a purchase price of £200,000, generating an annual rent of £10,000, to a 3-bedroom property that costs £250,000. If acquiring a property with an additional room costs £50,000, but results in an additional annual rent of £7,000, the incremental increase in rental yield for the 3-bedroom property would be 2.8% (£7,000 additional rent ÷ £250,000 property cost x 100%)!
Incremental Increase in Rental Yield = (Additional Annual Rent / Cost of Adding a Room) x 100%.
Rents in the Local Property Market
Just as it’s essential to avoid assuming that past property price growth trends will persist, the same holds true for rental income. While there are other factors involved, rental prices in an area are driven primarily by a combination of local population growth and wages.
. If your chosen property market is experiencing an influx of new residents and local wages are stable or growing, then you can be confident that your property will continue to generate stable rental income. Conversely, if residents are moving out of the area, and the local economy isn’t buoyant and supportive of stable wages, your rental growth might not be a sure thing.
Other Considerations
While not as crucial as what we’ve covered thus far, there are a few additional factors to consider when deciding on where to buy your first investment property. Firstly, the supply of new build properties could play a potentially important role in deciding future property price and rental growth.
A surplus of new construction can lead to increased competition among landlords, potentially putting downward pressure on your rents and pushing the long term value of your property downwards.
Secondly, the availability of local amenities, such as schools, shopping centres, and recreational facilities, can influence the desirability of an area for renters. So, even if the market you’re looking at doesn’t tick all the above investor boxes, proximity to these amenities can create “micro” rental opportunities as tenants will often be willing to pay higher rents for convenience and proximity to local amenities.
Finally, robust transport links, such as access to rail or bus links can enhance a property’s appeal. Improved connectivity can increase property demand, potentially allowing you to tap into renters who commute into work, or who want quick access to a larger city. Keep an eye on future transport link development for possible investment opportunities!
To sum up, deciding on your first buy-to-let property can seem overwhelming, but considering everything we discussed above can help you feel more secure in your investment. Remember to identify your investment time horizon and select a property with the financial characteristics to match. Closely review the price and rental history of not just the local market, but the different property types in the area.
Pick the number of rooms which maximises your rental return. Remember you are investing in a local property market not just a piece of property! So take the time to learn about the economy and the locals. And finally, look for opportunities near amenities! Hopefully these takeaways will empower you to navigate the real estate market wisely and lead you towards finding the perfect investment property.
Getting started with Buy-to-Let (BtL) investing can be a thrilling journey towards financial growth, but it all begins with the crucial task of finding the right investment property. In this beginner’s guide, we’ll walk you through essential considerations that will help you make informed investment decisions.
This article was written by Matthew Thompson, Founder and CEO of City Search UK, an all-in-one housing market data platform in England & Wales.
Tom is a Digital Content Writer passionate about sustainable property & property trends. Regardless of the subject, he will always write blogs of the best calibre. Read more about Tom here.
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