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Property Investment Return Calculation Variables

Download our example of a comprehensive property investment return calculation [ Microsoft Excel .xls file 261KB ]

Any calculation of property investment return can only be as accurate as the input variables that are included in the calculation. It is therefore essential for property investors to develop a comprehensive understanding of the nature of all the input variables that have a significant influence on investment return. This page includes guidance on all the most important property input variables that need to be included in an investment return calculation and a recommended methodology for calculating the appropriate input variable values. Note that it is imperative that investment return calculations are accurate because these calculations play an important role in making property investment decisions. It is therefore equally important that all the input variables that have a significant influence on property investment return are included in the calculation.

We have included a link to a comprehensive and accurate investment return calculation (based in Excel) at the top of the page. Click the link to open the example file in Excel. Most of the input variable values are specified on the Input sheet - only the annual capital growth rates are included on the CashFlow sheet.

Property Financing

This category of property input variables relates to the financing of a property acquisition and includes the property purchase price, deposit amount, purchase date, bond period and interest rate. The appropriate bond amount is calculated by deducting the deposit amount from the purchase price and should be amortized over the bond period at the appropriate monthly interest rates.

The annual bond interest rate is the most important variable in this category because it is usually subject to regular changes (variable monthly interest rates) and affects the calculation of the monthly bond repayments which in turn has a significant influence on the calculation of property investment return. In order to compile an accurate forecast of property investment return, it is therefore imperative that variable monthly interest rates are facilitated in the calculation. In our example, the monthly prime interest rates are entered on the PrimeRate sheet and an interest rate discount or premium can be specified on the MonthAmort sheet in order to adjust the monthly prime interest rates by the discount or premium percentage. This calculation approach is a lot more accurate than specifying a constant interest rate that is applied to the entire bond period!

The monthly bond repayments that are calculated are included in the annual cash flow forecast for the property investment. The annual interest charges should also be included in the annual property income tax calculation. The interest calculation in our example is facilitated by using a monthly amortization table that is calculated on the MonthAmort sheet. Note that the income tax amounts should only be included in the investment return calculation for buy to let properties - the interest charges that relate to a primary residence cannot be deducted for income tax purposes. The deposit amount input value should be included as a cash outflow in the first period that is included in the property investment return calculation. If the property owner is VAT registered, the input VAT that can be claimed back from SARS should also be included as a cash inflow in the first annual period.

Transfer & Bond Costs

This category of input variables includes transfer duties, transfer fees, other transfer costs, bond registration fees, bank initiation fees and other bond costs. Transfer duties make up the most significant part of these costs and are determined on a sliding scale based on the property purchase price (from 23 February 2011, the transfer duties for both individuals and corporate entities are calculated based on a sliding scale. Previously corporate entities incurred transfer duties based on a fixed percentage of 8%). No transfer duties are levied on the first R900,000 of the property purchase price, a 3% duty is levied on the portion of the purchase price that falls between R900,000 and R1.25 million, a 6% duty is levied on the portion of the purchase price that falls between R1.25 million and R1.75 million, an 8% duty is levied on the portion of the purchase price that falls between R1.75 million and R2.25 million, an 11% duty is levied on the portion of the purchase price that falls between R2.25 million and R10 million and a 13% duty is levied on the portion of the purchase price that exceeds R10 million (values as per Budget Speech of February 2017).

Transfer and bond registration fees are determined based on guidelines that are provided by the SA Law Society and are calculated based on a sliding fee scale that is applied to the property purchase price for transfer fees and the bond amount for bond registration fees. Deed office levies are also determined on the same basis but are a lot less than transfer and bond registration fees. Other transfer and bond costs consist of miscellaneous charges that are incurred during the transfer and bond registration process. Bank initiation fees are charged by the financial institution that grants the bond and are determined based on the average fees that are charged by these institutions and calculated as a percentage of the bond amount.

Operating Income

This category consists of the monthly rental income that is levied in return for leasing a buy to let property, the occupancy rate of the property and the annual rental income increase percentage. The occupancy rate should be applied to the rent income amount in order to provide for periods where the property will not be leased. The annual increase percentage should be applied to the initial rent income amount in order to calculate the rent income that will be earned in future annual periods. Some property developers also provide a rental subsidy during the first couple of months or even years of the investment period in order to make the investment proposal more attractive for property investors. It is therefore important that a comprehensive property investment calculation solution also makes provision for including rent subsidies in the calculation of property investment return.

Operating Expenses

This category includes all the operational expenses that are incurred on an ongoing basis. Operating expenses include rates, property management fees, levies, repairs & maintenance and insurance premiums. An annual increase percentage should also be included in order to adjust the initial operating expense amounts for future periods. In our example, the increase in operating expenses is facilitated through specifying an operational cost inflation percentage.

Selling Costs

This category includes the costs that will be incurred when the property is eventually sold. Selling costs consist of agents commission and any other marketing costs that are directly related to the sale of the property. The estimated selling costs should be included in the investment return calculation in order to make provision for these costs, otherwise the investment return may be overstated.

Market Value

The most efficient method of determining the market value of a property at various stages in the investment period is to apply an average annual capital growth rate to the initial property purchase price. This rate could be calculated based on house price statistics that are released by major the major banks or the rate can be based on area specific house price data that can be obtained from estate agents. Some residential property calculation solutions use a constant average annual capital growth rate that is applied over the entire property investment period. This approach is not ideal because it does not provide for variable house price growth. We therefore believe that a property investment return calculation that facilitates variable annual capital growth rates would be a lot more accurate and this calculation approach is followed in our example (the annual capital growth rates are specified on the CashFlow sheet).

Property Income Tax and Capital Gains Tax (CGT)

The difference between the rental income that is received from leasing a buy to let property and the operating costs and interest charges that are incurred on an annual basis should be included in the property owner's income tax assessment for the particular tax assessment year (note that there is no income tax on primary residences). Capital gains tax may be incurred if any residential property is sold and the selling price of the property is greater than the base cost of the property thereby resulting in a capital gain on the sale of the property. The capital gains tax that may be payable on the disposal of a property should therefore be included in the calculation of property investment return.

The property income tax and capital gains tax variables are omitted in the calculation of property investment return in many residential property calculation solutions. This means that the investment returns that are calculated by using these solutions are guaranteed to be inaccurate and may therefore result in the incorrect investment decisions being arrived at. Both income tax and capital gains tax could have a significant effect on the calculation of investment return and it is therefore imperative that property investors ensure that both of these important property variables are included in the property calculations that they are basing their investment decisions on!

The calculations of the annual income tax liability and the capital gains tax that may be incurred when a property is sold are covered in a lot more detail on the Property Income tax and Capital Gains Tax pages of our website. The legal nature of the property owner plays an important role in both calculations and it is therefore important that the enterprise form is also taken into account when calculating property investment return.

Inflation

The principle of discounted cash flow is often used in order to compare the actual or forecasted property investment return to the average inflation rate for the investment period. Our example facilitates this comparison by specifying a discount rate. You can find more guidance on the calculation of an average inflation rate on the Average Inflation Rate page of our website.

Note: The guidance on this page has been compiled based on the assumption that a property investment return forecast is compiled. In order to measure the actual investment return of a property, the actual income and expenses relating to the property investment should be included in the calculation and the actual market values and outstanding bond amounts at the end of each annual period should also be taken into account. Our property templates are the only residential property calculation solutions that facilitate the recording of these transactions and values and are therefore by far the most accurate and comprehensive calculation solutions for analyzing and measuring actual investment return.

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