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Buy-to-let: how to work out whether a property pays
A buy-to-let property pays when the rent covers every cost of owning it and leaves you something extra, with allowance for months it stands empty. Many people look only at the rent against the bond instalment. That leaves out several costs, and it can make a poor property look like a good one. Here is how to do the sums properly.
Start with gross yield
Gross yield is the yearly rent as a percentage of the price. It is a quick way to compare properties. Take this simple example. A flat costs R1 500 000 and lets for R10 000 a month. Yearly rent is R120 000. Divided by R1 500 000, that is 8%.
The figure is a starting point only. It ignores your costs, and it assumes the flat is let every month. Use the rental yield calculator to run your own numbers.
Add up the costs of buying
Before you earn a cent, you pay to buy. Costs include:
- Transfer duty. This is a tax on the purchase. It is zero up to R1 210 000, then 3% of the value above that up to R1 663 800, and higher rates after that. On a R1 500 000 purchase, it is R8 700 (3% of the R290 000 above the threshold). The table is the same for every buyer, and there is no first-time buyer exemption.
- Transfer attorney’s fees and Deeds Office fees. Attorneys’ fees are not fixed by law and vary by firm.
- Bond registration costs, if you borrow.
- Your deposit. Banks often ask investors for a bigger deposit than they ask of someone buying a home. Ask your bank what it requires.
The transfer costs calculator adds these up for a given price. If the seller is a VAT vendor, such as a developer, VAT may apply instead of transfer duty. A deal cannot carry both.
Add up the costs of owning
These costs come out of the rent every month or year:
- Bond instalment, if you have one. Only the interest part counts as a tax deduction.
- Rates and taxes, and levies if it is a sectional title unit.
- Insurance on the building and, for a sectional title unit, your share of the scheme’s cover.
- Repairs and maintenance. Set aside a sum every month for this, whether or not anything breaks.
- Agent fees if you use an agent to find and manage tenants. Read manage your rental yourself or use an agent.
- Months with no tenant, when you still pay everything but receive no rent.
Add the yearly figures and subtract them from the rent you expect to collect. What is left is your net income before tax. Divide it by your total cash outlay to see your net yield. Using the earlier example, if costs and an empty month or two leave only R60 000 of the R120 000, your net return is closer to 4% of the price, before tax.
Check the cash flow
Yield is not the same as cash flow. A property can show a decent yield and still cost you money each month if the bond instalment is larger than the rent after costs. Many investors accept a small monthly shortfall because they expect the value to rise, but that is a bet, not a certainty. Property values can fall or stay flat. Work out whether you could carry the shortfall for a year if the flat stood empty.
Test your bond with the bond repayment calculator, then see how a change in interest rates would affect you with the interest rate change calculator.
Remember tax on the way in and out
Rent counts as income and is taxed with the rest of your income. Capital gains tax applies when you sell. The R3 000 000 primary residence exclusion is for the home you live in, so it does not help with an investment flat. For individuals, 40% of the gain is included in taxable income after an annual exclusion of R50 000, and the maximum effective rate is 18%. Read tax on rental income, and speak to a tax practitioner about your own position.
What to do next
- Pick two or three properties and calculate gross and net yield for each.
- Check how long similar homes in the area take to let, by asking local agents.
- Find out the levies, rates and any special levy planned.
- Build in a gap of at least a month of empty rent.
- Browse properties for sale and test your shortlist.
This article is general information for South African readers, not legal, financial or tax advice. Rules and rates change, so check your own situation with an attorney, your bank or a tax practitioner. Our property calculators can help you work out the numbers.