Kindle Notes & Highlights
Read between
January 4 - January 12, 2021
Gross yield is simply the annual rental income from a property divided by the purchase price of the property.
the limitation of gross yield is that it doesn’t consider your upkeep costs. For example, it doesn’t consider the likely difference in costs between houses and apartments – the latter will often have a service charge and ground rent. Furthermore, two houses, one a new build detached and one an old Victorian terrace, could have the same gross yield, but the repair costs for the older property will likely be much higher.
we also need to consider additional costs like stamp duty, legal expenses, surveys, broker fees, etc. These are all real cash costs that need to be paid upfront, and so we should add all of these to the “cash invested” in our ROI formulae above.
ROI is our best guess at the return we’re actually going to achieve on our cash. Because of this, you can even compare it with the returns you’d get on non-property investments,
Marketing the property, e.g. £360 Tenant reference checks, e.g. £120 Preparing an inventory, e.g. £60 Deposit registration, e.g. £60 Tenancy renewals, e.g. £120
Management fees for a typical buy-to-let will be in the region of 10% to 12% of the monthly rent.
I typically make an allowance of 5% to 10% of the monthly rent, possibly higher for older houses with extensive maintenance issues.
You should ask the estate agent for details of the latest charges when you’re modelling a deal. You should also ask to see a copy of the lease. This will help you uncover any onerous clauses, e.g. around future increases in the ground rent. Personally, when I’ve got my cash flow modelling wrong in the past, it’s been because I’ve underestimated things like service charges.
consider increasing the cost you use in your modelling by 5% or 10% as a buffer against future adverse experience.
For apartments, buildings insurance is sometimes included in the service charge. Sometimes it’s not. Ask the estate agent – they often won’t know the answer, but they can find this out for you.
Factor in something small for public liability insurance and accidental damage cover. £60 to £90 per annum ought to do it.
In between tenancies, your property will likely be sitting idle for a couple of weeks. You should factor the cost of this into your cash flow estimates. I typically assume a void period of one month every two years, so I make an allowance for voids of two weeks per year in lost rental income.
the local council might charge council tax while the property is unoccupied – some do, some don’t.
gas safety checks, electrical safety testing, freeholder notification fees,
I tend to err on the side of more detail is better.
Some investors, particularly new investors, are so keen to do a deal that they talk themselves into using increasingly optimistic cost assumptions. They do this to justify a higher purchase price and to increase the chances they’ll close on a deal. If you find yourself doing this, bring it back to basics and try to come up with a prudent estimate based on your best guess at the likely costs involved. Better still, ask another experienced investor to review your modelling and your cost assumptions.
Margin for safety is a concept taken from the accounting world. In accounting, it’s the amount that the sales or revenues of a business can drop before it starts to make a loss.
The concept was popularised in the investment world by Benjamin Graham, the famous value investor, in his highly popular book The Intelligent Investor.
buying the investment at a discount to its “intrinsic value” – that is, at a price lower than what the stock was worth based on its earnings and growth prospects.
our modelling has got us to a sensible estimate of the monthly cash flow we can expect from a deal. This is our ‘base case’
I first examine the impact on an “all other things being equal” basis – that is, I change just one assumption at a time. Then finally, I think about the potential combined impact of these changes.
(1) A fall in the market rent
following the 2007-2008 financial crisis, there was a fall in rents across most regions of the UK of around 2-3% p.a. for 12 to 18 months. As such, a sensible stress test might be a 5% fall in the monthly rental income from the property.
(2) An increase in mortgage interest costs Mortgage costs will likely be your single largest expense.
mortgage product where the initial rate of 3.5% p.a. reverts to 5% p.a. after five years.
Average mortgage interest rates in the UK over the last 50 years have been much higher than this, so you could also consider a more pessimistic scenario based on say a 7% p.a. interest rate or higher.
(3) An increase in the service charge For flats and apartments, the other big chunk of cost is usually the service charge.
way. A sensible stress test might be to assume a 10% or 20% increase in the...
This highlight has been truncated due to consecutive passage length restrictions.
(4) An increase in repair costs We’ve already looked at a typical allowance for repairs above – that is, 0% to 5% of the monthly rent for apartments and 5% to 10% of the rent for houses. In your stress test, you could consider increasing this a...
This highlight has been truncated due to consecutive passage length restrictions.
(5) A general increase in ...
This highlight has been truncated due to consecutive passage length restrictions.
consider say a 10% increase in the total.
The impact of various stress tests on monthly cash flow Stress test Cash flow impact / £ (1) A fall of 5% in the market rent Calculation: £750 rent × 5% (38) (2) Mortgage rate increase from 3.5% to 5.0% p.a. Calculation: £263 monthly cost × 5.0% ÷ 3.5% − £263 (113) (3) An increase of 20% in the service charge Calculation: (£900 annual service charge × 20%) ÷ 12 (15) (4) An increase in repairs from 0% to 5% of the rent Calculation: £750 rent × 5% (38) (5) An increase of 10% in all the other costs Calculation: £210 per month (all other costs) × 10% (21) Total impact (225)
if all these things happened together, my net cash flow would fall to £25 per month. In practice, if we’ve built up our base case prudently, all these changes are unlikely to happen at once.
For example, by taking out a fixed rate mortgage of five years or more, we can reduce our interest rate risk and lock in some of our costs in advance, thereby reducing the chance of a negative cash flow position in the future.
you could use a broker to help you get the best possible mortgage rate.
valuing commercial property or developments, Property Valuation Principles by David Isaac
This is the estimated rental price of a property agreed between a willing lessor and a willing lessee.
There’s lots of talk in the property industry about buying below market value or BMV. This fascination with BMV deals appears to stem from the idea that buying below market value can help you grow your portfolio quicker by “baking in equity from day one”. Personally, I blame Robert Kiyosaki of Rich Dad Poor Dad fame for all his talk about no-money down deals – eurgh.
(a) the seller might be facing repossession and willing to accept a lower price for a quick sale; (b) the property may not have been marketed well, forcing the seller to reduce the price.
If you do decide to consider these deals, you absolutely should factor their sourcing fee into your calculations and see if the deal still stacks up. The best approach is Ronald Reagan’s
1. The comparison method of valuation
online portals like Rightmove and Zoopla and from HM Land Registry.
Other factors could include the size of the garden, the standard of decor, the condition of the central heating system, the presence of double glazing, the condition of internal fixtures and fittings,
We can keep track of all this data in a systematic manner on a sales schedule. A sales schedule brings together data for similar properties in one place.
The sale schedule would show each property’s usable floor space and from that a value per square-metre or per square-foot could be calculated.
The price and date information are taken from HM Land Registry and the floor space data is taken from each property’s EPC certificate, as these are also available free online.
our estimate of the market value could be in the range £240,000 to £250,000. We get this by multiplying the floor space of my apartment by the average price per square-metre, i.e. 76 m-sq × £3,200 per m-sq equals £243,200. I’ve put a bit of a range around the final estimate here to reflect the uncertainty involved in this process.
Those who value properties for estate agents (and who are not always chartered surveyors) will tend to work on a more instinctive basis.
Essentially, they are doing a mental version of a sales schedule,
the comparison method works well for residential property.
