Buy to rent A condominium as an investment?

Is it worth buying residential property and renting it out? The potential returns are often not as rosy as you might think.

by Jürg Zulliger 02 Jun 2016

With interest rates so low, it has become difficult to invest money both profitably and securely. Since secure investments like government bonds generate almost nothing today, or even negative returns, private investors are on the lookout for alternatives. Why not buy a condominium, keep it as an investment, and rent it out? At one time, over 20 percent of all new residential property mortgages were for real estate not used by the purchasers themselves. This proportion has now fallen slightly. Yet Kathrin Strunk, an economist at the Swiss Association of Real Estate Owners (HEV), confirms the trend towards private real estate investments: "It happens a lot more often than in the past, for example, that individuals buy condominiums long before they retire to live in later when they’re older."

Real estate promoters of new properties have seen similar trends: an amazingly high number of apartment buyers are purchasing real estate as an investment. Their children, or even the buyers themselves, might move into it at a later date. Another group of owners acquired residential property long ago, but for personal reasons didn’t move in themselves – for instance because they changed jobs or moved abroad temporarily. Instead of selling the real estate they rented it out.

Will renting out be worthwhile in future?

But how profitable is an investment like this? The figures for the past few years look good. Firstly, because real estate purchases could be financed at an advantageous rate. And secondly, because the value of residential property has steadily increased. The resulting returns far exceeded the yield from secure investments such as government bonds. The performance of each investment varies significantly, however, depending on the location, the real estate market, and structural strengths and weaknesses.

Whether investing in residential property for rental purposes will remain worthwhile in future depends on several factors. "Anyone buying an apartment must be aware that real estate prices run in cycles," stresses Kathrin Strunk of the HEV. Real estate prices are quite high at the moment. But high real estate prices mean lower returns, as rents have not risen by as much as apartment prices have. Many analysts and market observers predict that after such a long boom, real estate prices are more likely to sink than to rise further in the near future. If real estate loses value, the "business plan" no longer looks so rosy. What’s more, if financing costs are higher in future than today, and if the income situation worsens at the same time – due to the economy or the state of the real estate market – this will of course have an impact on returns.

Another important question is the rental suitability of the real estate and its location. Central locations, many big cities, and attractive tourist spots have stable demand for apartments, leading to different answers than for economically underdeveloped, badly connected areas. Sometimes, it can be hard to work out what sort of tenants you should be targeting. Is a certain location or district more for families or for singles? Will it attract students, or households with high incomes? If your initial assumptions prove inaccurate, it’s a good idea to have a plan B – or to set aside sufficient reserves to help bridge a vacancy.

What lessors need to know …

Renting out residential property calls for know-how, as well as time. There are traps lurking in the jungle of legal regulations and formal requirements. At the start of a lease, it’s important to be clear about the contractual conditions, ancillary costs, rental deposit, inventory, and hand over. The “Formularpflicht” applies in several cantons: when a new lease starts, you must disclose what rent the previous tenant paid; a rental deposit may only be requested as security if this has been agreed on; and the ancillary costs must also be listed in the contract. When setting the rent, the lessor can base it on typical figures for the location and district, or the effective costs and expenses. It is important to always clarify which costs can and cannot be passed on to the tenant by law.

… and what calculation methods to use

The lessor should include mortgage interest and interest on the invested capital in the calculations, as well as the costs of maintenance, amortization, taxes and insurance. You also need to think about the tax impact: the value of the apartment or house must be declared as an asset, while the rental returns count as income – although mortgage interest and certain maintenance and ancillary costs can be deducted. But be careful: if in doubt, the owners must be able to prove that they are not generating exaggerated income. In many cases, it makes sense to get advice and have the rental value estimated by an expert.

You should also bear in mind that you may need to pay one-off costs for renovation work, structural modifications, etc. in future. And don't forget the vacancy risk: if your property is empty, you will miss out on income, while certain expenses still remain due. The portfolio of a private individual often consists of only a few properties, or even just one. So every vacancy can have serious consequences – unlike when investing in an entire apartment building.