# Rental Reality

Discussion in 'General Investing Discussion' started by cookeg, 22nd Mar, 2010.

1. ### cookegNew Member

Joined:
21st Mar, 2010
Posts:
2
Location:
melbourne
Hi Guys,

Very new to all this. Can someone please explain estimating purchase price using 'rental reality' to me. I would have thought that the higher the rate of rental return for a property price the better. When I read the article getting purchase price using rental reality the opposite seemed true. The higher the rate of return I typed in the less I should pay for the property. What am I missing here?

Cheers,
Garry

2. ### Simon HampelCo-founderStaff Member

Joined:
9th Jun, 2005
Posts:
4,774
Location:
Sydney, Australia
The theory of rental reality is about choosing the maximum price you should pay for a property based on the average rental yield for similar properties in that area.

It doesn't say that high rental yield or low rental yield is better. Rental yield is only used as a benchmark for comparison within that area.

Eg 1. suburb A has an average long term rental yield of 4%, and expected rent for property X is \$300pw, then the most you should pay for this property is (300 * 52 / 0.04) = \$390,000.

Eg 2. suburb B has an average long term rental yield of 8%, and expected rent for property Y is \$180pw, then the most you should pay for this property is (180 * 52 / 0.08) = \$117,000

All rental reality is doing is looking at what yield you should expect to get for your property, and then basing the maximum purchase price on this "reality" to make sure you don't pay too much (and thus suffer a lower yield than all the other properties in the area are getting).

Hope this helps.

3. ### cookegNew Member

Joined:
21st Mar, 2010
Posts:
2
Location:
melbourne
Thanks. I realize my thinking was way out of wack. Just looking at so may figures all got very confusing. I was applying current rate of a property to current rental and of course anything with a higher of return than average was coming in as being priced to high. Just needed a rest.

Thanks.

4. ### KateMelbActive Member

Joined:
17th Apr, 2010
Posts:
33
Location:
Melbourne, Victoria
Not necessarily. It depends if you are pursuing a strategy based on return or based on capital growth. E.g. serviced apartments and commercial properties usually produce higher average rental returns than residential properties but they have far less average capital growth.

If you're looking to build equity, rental return alone is not enough. The location of the property, the proximity to public transport, parks, schools, shops and cafes plus the fixtures and orientation of the property are all important factors when it comes to predicting capital growth.

Also beware of buying sight-unseen. A property can look great on paper and the area can appear to have a high rental return, but if the property isn't private or is too hot or too cold or lacks a large courtyard/balcony, car parking etc, it can be unappealing to tenants and remain vacant for some time, costing you far more that a property with a lower rental return that would have been tenanted long beforehand. Off-the-plan properties are also usually overpriced so you're unlikely to achieve any capital growth for the first 2-3 years.

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I DIY manage with Rentwise.