How to value a rental property: the three numbers that decide it
A rental property has two values at once — what it will let for and what it will sell for — and the gap between them is the whole investment case.
Investors frequently value a rental property the same way they would value a home, by comparing it against recent sales. That gives the capital value and misses the point, because a rental property is bought for its income and the income can differ sharply between two identical-looking houses.
The method that works is to establish the achievable rent first, then the capital value from comparable sales, and then to look at the relationship between them. That relationship — the yield — is what tells you whether the price makes sense.
Establishing the rent
Rent evidence is less public than sold price evidence, but it is available. Rightmove and Zoopla publish asking rents, which are the landlord's opinion. What you want is the achieved rent, and the reliable sources are letting agents who will tell you what similar properties actually let for, and your own enquiries posing as a prospective tenant.
Be sceptical of a rent quoted by the seller or the selling agent, and be sceptical of the top of the asking range. Properties sit at the top of a range and do not let; the achievable figure is usually nearer the middle.
- Ask two or three local letting agents what the property would achieve, and ask them to evidence it with recent lets
- Check asking rents for genuinely comparable properties, and discount to allow for the gap between asking and achieved
- Establish the tenant profile the property attracts, because a family house and a professional let are different markets
- Check whether the rent is inclusive of bills, which changes the net figure substantially
Establishing the capital value
Capital value comes from sold comparables, exactly as for any other property, using HM Land Registry Price Paid Data. The complication for rental property is that you are often buying a property that needs work, and the capital value must be assessed in its current state rather than after the refurbishment you intend.
The distinction matters because it changes the arithmetic. If you pay full value for a property that needs £20,000 of work, the yield is calculated on a figure that already includes work you have not done.
Reading the relationship
Once you have both numbers, the yield tells you whether the price is sensible relative to the local market. Compare it against other rental properties in the same area, not against a national average, because rental yields vary enormously by region and by property type.
The most useful comparison is against your own alternative uses of the capital. If a property yields 5% net and a savings account pays 4%, the property is being paid about one percentage point for the work, the risk and the illiquidity. Whether that is worth it is a judgement, but it should be a conscious one.
Common questions
- Should I use the asking price or the sold price to value a rental?
- Sold prices, always. HM Land Registry Price Paid Data gives the actual figure for every residential sale in England and Wales. Asking prices are opinions that have not been tested by a transaction, and on rental property they are frequently set with an investor audience in mind and priced optimistically.
- What rent can I realistically achieve?
- The figure that lets the property, not the figure at the top of the asking range. Ask local letting agents to evidence recent comparable lets, and be aware that a property advertised at the top of a range is often still vacant weeks later. Budget a void period even in a strong rental market.