Buying an apartment as an investment
Looking for a steady thing?
Buying and renting out an apartment:
It almost always works
Got some savings put away and looking for the most profitable way to put that money to work for you? When you're searching for ways to invest, one of the options you're likely to come across — apart from stock portfolios and investment funds (EFTs) — is real estate. Real estate is considered a value-stable, low-risk form of investment and can quickly provide 4–6% rental yields. In some cases, it's a good idea not to invest all your money in a single property. The so-called "leverage effect" makes it possible to easily increase your ROE (return on equity) and invest your money more efficiently.
When choosing a location, it's a good idea to ask yourself whether the investment property needs to be situated close to where you live — real estate in other areas might offer much better potential rental yields.
We'll help you understand how real estate financing works and what your options are: from loans with 20% down payments to mortgages with no down payment at all (100% financing), just about everything is possible.
If you want to learn about the most important aspects of buying real estate as an investment and how you can go about doing it as efficiently as possible, keep reading.
Investing in real estate: it's worth it
One of the most important benefits of investing in real estate is that rental properties are resilient and offer a certain degree of protection against inflation. That, in turn, provides landlords with a financial buffer because their real returns remain high despite rising price levels. According to the German Economic Institute (IW), the average return on investments in residential real estate in Germany between the years 1998 and 2007 was 48%. During the same period, consumer prices increased by just under 13%. All in all, real returns on real estate investments came to 35%. That's pretty high compared to stock returns. According to the Deutsches Aktieninstitut e.V., investors who purchased stock in 1998 and sold it in 2007 "only" achieved a 5.5% return on their investment.
The investment risk of real estate is also manageable because the value of the investment isn't attached to the stock market. It makes it possible to calculate and budget your returns pretty reliably.
Don't have a lot of money to invest? No problem.
You don't have to be rich to buy an apartment and rent it out for profit. Whether you're working with a big budget or a small one, there are many ways to play the real estate market.
Investing in real estate doesn't mean you have to buy a four-room apartment in a prime location. If you're working with a smaller budget, you're probably better off starting with a one or two-room apartment in an up-and-coming area. The capital expenditure is lower, and your chances of turning a profit are better. In most cases, we recommend looking for properties outside of your home city. Although it may seem like a good idea to have your investment property close to home, there are more important criteria to consider, such as potential return on investment and appreciation. On top of this, existing private apartments are typically affiliated with a homeowners association (Wohnungseigentümergemeinschaft) which entrusts the commercial and technical management of the apartments to a property management company. The management company handles rent collection, issues warning letters if tenants fall behind on their payments, sends out the utility bills, and takes care of repairs and maintenance work.
Investing in real estate: what you need to know
To earn primarily passive income from your investment, it first and foremost needs to generate good returns. However, the kinds of rental returns you can expect to achieve with residential properties depend on the property's appreciation potential and on whether there are ways to increase those returns. If the location has potential for future development, lower initial returns aren't a big problem. In this case, you can even accept returns as low as around 3%. When demand goes up, rent goes up, and so your returns go up as well. When you buy an already rented out property, and the current tenant has been living in the apartment for a long time, the rent is likely lower than the average rate for that area. But if the current tenant moves out at some point, you'll be able to raise the rent, which will increase your returns in this case as well.
Ultimately, you want your rental returns to be in the 4–6% range. To get an initial idea of what you can expect, figure out the property's gross rental return. Here's how you calculate it: (Net Annual Rental Income / Purchase Price of Property) x 100
You want the gross rental return to be at least 5%. But since this doesn't take into account any non-apportionable expenses, such as utilities, maintenance reserves, and management costs, you should definitely also calculate the net rental return for a more precise value: (Net Annual Rental Income / Purchase Price + Ancillary Costs) x 100
If this turns out to be at least 3%, it could be profitable to buy and rent the property.
Returns aren't everything
The location of a property is every bit as important as the potential returns, if not more important. If you're thinking of buying and renting a property, you want to ask yourself the following questions:
What region or district is the property in?
Is the property centrally located, or is it closer to a suburban area?
What is population growth like in the area and what is the age structure?
How is the connectivity and what infrastructural development are planned?
What is the area's vacancy rate?
How often do people move?
What is the unemployment rate?
What is the average household income after taxes?
First impressions matter. But always take a second look.
To avoid any nasty surprises after the fact, you'll want to get an idea of what condition the property is in before you buy it. If the property requires renovation, modernization, or restoration, then you'll need to include this in your calculation and also in your price negotiations. You can get this information by requesting the minutes from the most recent owners' meetings.
You should also arrange to see the property in person at least once. If it isn't located right around the corner from you, taking a 360-degree online tour is a great alternative. When you're buying real estate as an investment, what matters most is the general condition of the property and the area, not whether the floor plan perfectly matches your personal preferences. To get an accurate appraisal of the apartment and the building, have a professional appraiser inspect it for you.
Buying a rented out apartment
Here are a few tips if you're playing around with the idea of buying an already rented out apartment:
Check whether the tenancy has been consistent or if there is a high tenant turn-around
Have a look at the current rental agreement to see whether it favors the tenant or the landlord
Check to see whether rent is being paid on time
Check to see if there are any overdue rent payments
Find out if the apartment or building requires renovation, which could potentially lower the rent
Determine if it's possible to increase returns by raising the rent if the current tenant moves out
Make sure that the current tenant doesn't intend to make use of their right of first refusal
Buying real estate — there's a lot to consider
With all of the options you have for buying and renting real estate, there's one thing you need to be aware of: It's an investment, and your capital is going to be tied up for a long time. That's why it's essential to understand all of the facts, figures, risks, and opportunities associated with a property before you commit.
Buying an apartment can be a very bureaucratic and complicated process, so take your time. Go step by step and don't try to do everything at once. You might find it helpful to use a checklist that lays out all your todos in chronological order.
Don't try to save money on the wrong things: be as generous with your financing as you're able to be. That way, you'll be safe if you don't manage to generate any rental income for an extended period, and you'll spare yourself a great deal of stress if your tenant search doesn't go as quickly as you'd like. If you would like to talk to our finance professionals about this, please feel free to make an appointment.
If the general conditions of the investment look good, then our advice is to go for it.
Buying vs. renting: pros and cons
The decision to buy and rent property usually requires quite a bit of forethought. But it doesn't have to be rocket science, and it can certainly pay off. So what are the reasons for and against buying?
Expected returns are predictable and stable
Longer fixed interest rate lock-in periods
Real estate resilience offers a certain degree of protection against inflation
Rent and profits can grow if the popularity of the location increases
Tax benefits from your mortgage, property tax, repair and renovation costs, and costs relating to the acquisition of tenants
Rental income can supplement your retirement
You can increase your ROE using the "leverage effect"
Relatively high capital expenditure, making diversification more difficult
Long-term capital commitment
The location can decline in popularity; rent could become capped
You may be subject to legislation that favors tenants
Management work (if you don't hire a property management company)
Costs arising from loss of rent or repairs/maintenance
Once you've carefully considered all of the opportunities and risks of investing in a property, it's time to arrange financing for the purchase. What people usually do at this point is take out a loan from their main bank or go around on their own and collect offers from several different lenders. Another option is to hire an independent expert, such as Urbyo, to do this work for you. The Urbyo team can send you offers with prime conditions from a pool of over 400 banks — straight to your inbox. The best thing to do is to send an email to email@example.com if you want to secure your "Perfect Fit" financing.
Investment properties are a sensible part of any investment portfolio, and they can prove profitable even if you don't have a lot of equity. Searching outside of your own area is a great way to find good investment opportunities.
Generally speaking, it is possible to buy an investment property without putting any of your own money towards the purchase. But since this requires you to borrow more money, which poses an added risk for the bank, you'll end up paying a higher interest rate. Banks need a guarantee before they can approve you for financing. If you want to borrow 100% or even 110% of the purchase price, you'll need to be able to prove that you have a steady income, for example.
It's worth mentioning that you don't need to buy the property outright to achieve significant returns on it. In fact, if you borrow a portion of the purchase price from a lender instead of financing the entire thing yourself, you can actually improve your return on equity thanks to the so-called "leverage effect." It causes your returns to increase whenever your annual rental income is higher than your borrowing costs.
Return on equity (ROE) measures how efficiently your money (equity) is invested. It's pretty easy to calculate: ROE (in %) = (Net Income / Equity) x 100
Here are two examples:
You buy an investment property for €100,000, plus 10% in ancillary costs. That brings the total cost to buy the property to €110,000. You're able to cover the entire cost with your own money, and each year the property generates €4,800 in rental profit. That gives you an ROE of 4.36%.
Purchase price: €100,000
Ancillary costs: €10,000
Total cost: €110,000
Net annual income from rent: €4,800
ROE: (€4,800 / €110,000) x 100 = 4.36%
You buy an investment property for €110,000, plus ancillary costs. You cover the €10,000 in ancillary costs with your own money. You finance the remaining €100,000 with a loan from the bank at an interest rate of 3% p.a., and you deduct the interest from your rental income. Your rental property generates €4,800 in profit each year in this case as well. That gives you an ROE of 18%.
Purchase price: €100,000
Ancillary costs: €10,000
Total cost: €110,000
Net annual income from rent: €4,800
3% interest on €100,000: €3,000
ROE: ((€4,800 - €3,000) / €10,000) x 100 = 18%
Putting forward less of your own money actually improved the efficiency of your investment. Now you can use your remaining capital to buy and rent out more properties or make other types of investments.
What we've learned
When it comes to investing in real estate, everyone goes about it slightly differently and has their personal experience. Some people go straight to crunching numbers; others look for apartments that match their personal taste or are located in their immediate area. Some folks get into real estate investing through friends or family; others get into it on their own and enlist the help of professionals in the industry.
When deciding to purchase an investment property, it's important to understand the following aspects: the returns, the location, the rental income, the current condition, and your finances. For example, you'll want to know if:
the location has future potential
you can be sure that somebody will pay the rent
the rent is on par with the standard market rate
the apartment and building are in good condition
it's possible to obtain financing to cover the purchase price
you'll have a positive cash flow in the end
you have enough savings
Until now, getting all this information required tons of time, organization, and countless meetings with various experts. Now, with Urbyo, buying real estate is a breeze. We guide you through the entire purchase process, from searching for potential investments to signing your name on the dotted line. And if you like, we'll be here to help you after the purchase as well.
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