Real estate investment in Germany: what should an investor know before purchasing?
The German property market is one of the most stable in the world. Today, it is a seller's market - there are fewer properties than investors wishing to buy them. The easiest investment option is to purchase buy-to-let residential property that would yield 2–3% per annum on average. The low yield rate is offset by the high liquidity of the property, which can be sold easily and quickly at a moment’s notice. But what else should an investor know before diving into property investment in Germany?
Price growth
The German property market's reliability is confirmed by the stable growth of the ‘price per square metre’ during the past decade. For example, the 2008 global financial crisis did not cause a price collapse in Germany, unlike the rest of the European countries. According to Eurostat, between 2008 and 2013, the average residential property price in the EU fell by 8%, while in Germany it rose, conversely, by 12%.
At the same time, rental rates are going up. The German real estate web portal Immowelt.de has been gathering price statistics since 2011, according to which, rental rates in Germany had increased by 18% by 2017: from €6.6/m² in 2011 to €7.8/m² in 2017. Rental rates for residential property are higher in large cities. According to another web portal, Wohnungsboerse.net, as of August 2018, a 60m² apartment can be rented at €11/m² per month in Berlin, €12 in Hamburg and €18 in Munich.
Some experts say a ‘bubble’ is forming and prices will fall soon. However, according to Tranio analysts, the strong economy and the stable demand for residential property will not allow the prices to drop. According to European Commission forecasts, Germany's GDP will grow 2% per annum in the near future. "Everything has a limit, the price growth will slow down, and may, at a certain point, get near the inflation rates. But, for them to begin falling, there must be urgent reasons: a surge in the interest rates or serious problems with the German economy, which is now one of the most stable and reliable in the world", Boris Eliasson, Head of Tranio in Germany, commented.
High rental demand
According to Eurostat statistics, 30% of the EU population on average rent residential properties, with Germany ranking second by the share of tenants (48% ) after Switzerland (55%). In large German cities, an absolute majority of residents rent residential property: according to data from LBS, about 70% of city dwellers rent apartments in Hamburg, and 80% of them do so in Berlin. According to data from Immobilienscout24.de, as of 2016, there was an average of 77 potential tenants per apartment in Munich, 75 in Stuttgart and 53 in Cologne.
One of the most important reasons for such a rental demand is the constant flow of immigrants. According to data from the OECD, in 2016, Germany ranked second in the world after the US by the number of foreign nationals having acquired local residence permits. "The situation has changed especially significantly in Berlin: the population is growing by 50,000 people a year, with the total currently at 3.5mn. Most are middle-aged, well-educated, skilled workers. They come with money, wanting to rent and buy high-quality residential real estate and encouraging the prices to grow in doing so", Mr Eliasson found.
Tax optimisation
Real estate owners who rent out their properties are taxed on their earnings. Individuals are obliged to pay the personal income tax calculated at a progressive rate from 14.77% to 47.475%; legal entities pay the corporate tax at a fixed rate of 15.825%.
The income tax is levied on the margin between all the profits generated and all the expenses incurred. The latter includes purchase costs, utility bills, management company fees, property tax, loan interest, land tax and building depreciation expenses (2–3% of the building's value per annum). It is important to know that building depreciation expenses are calculated from the property's initial purchase value. Mr Eliasson gives an example from his personal experience: "Eight years ago I bought an apartment for €30,000, made repairs, and with the price growth it became ten times more expensive. However, I still can only calculate depreciation expenses from the €30,000 I bought the apartment for".
Legal entities include the costs of the founder loan in such expenses. According to Tranio statistics, buyers of commercial properties over €1 million annually save 25% of their income on average when registering the property to a legal entity, as compared to registering the same property to an individual.
The tenants' reliability guarantee
One of the German property market's characteristics is the legislation that safely protects the rights of property owners and tenants. For instance, tenants must provide the landlord with a package of documents proving their ability to pay the rent. A copy of the labour agreement, an income certificate for the previous three months (according to German legislation, the tenant can spend no more than one-third of income on rent before tax), credit history and a questionnaire filled out by the previous landlord and verifying the tenant has paid the rent properly and being clear of debt.
As a rule, tenants make a deposit (Kaution) equal to 1–3 months cold rent (i.e., without utilities). It covers losses if they stop paying the rent or damage the property. If the tenants do not violate the agreement, the owner returns the deposit upon completion of the lease.
Restrictions on rent increase
On the other hand, in its effort to protect tenants, German legislation limits the owner's ability to raise the rental rate, which can’t rise more than 20% (15% in Berlin) in three years, according to the law.
In Germany, upon the conclusion of a new rental agreement, the rate cannot exceed the official city rental index by more than 10%. For instance, if it is €8.50/m², the owner has the right to increase the rate to €9.35/m² at most. This limit (Mietpreisbremse) applies in over 320 German cities. However, it does not affect Hamburg, Frankfurt and Munich, for example, where the local courts have ruled it to be insufficiently substantiated and ineffective. According to Robert Reussmann, Head of Tranio Office in Munich, in July 2018, the city was to present new provisions for the protection of tenants, "but has forgotten to do it for now".
A number of cases exist when the rent increase limit does not apply:
- if the property is bought in the newly-built real estate market: "New builds are not subject to Mietpreisbremse, the rates for newly-built property are based on the demand-supply balance", Boris Eliasson commented.
- if a long-term rental agreement is signed: in this case, according to Robert Reussmann, during the first 5–10 years rental rates are adjusted by 3% per annum;
- if an overhaul has been made, and the apartments are converted into shared ones; "For example, it is possible to buy a three-bedroom apartment, overhaul, furnish and rent it out officially to three students for six or twelve months. In this case, rental rates can be increased annually by 5–6 %. In Munich, the average rental yield of shared apartments is 10% higher compared to the conventional ones", Mr Reussmann said.
Difficulties with tenant eviction
If the property owner and the tenant sign an indefinite rental agreement, the owner, unlike the tenant, cannot terminate without any serious reason. For example, having lost residential property, and in need of the leased apartment for own use or family members, or the tenant has gravely violated the agreement (failing to pay the rent or constantly delaying the rental payments).
The ‘social clause’ (Sozialklausel) also exists in Germany, where the tenant can try to appeal the eviction if he or she is not able to find a residential property comparable in terms of size, price and located in the same district or reasons of senior age, disability, major illness, low income, pregnancy, parenting and difficulties in finding a kindergarten or school in a different district.
