Investing in rental real estate – risk or guaranteed income for a private individual?

Multi-family buildings being much more appreciated in the current market conditions, more and more private investors are opting for buying investment properties for rental purposes.

In 2019, this type of investment represented a sixth of all property financing*. Considered a safe alternative investment, many private investors choose this type of acquisition, which allows them to participate in the housing boom. This trend, which can also be explained by a lack of alternatives for positive yield offered by the banks, is closely monitored by the FINMA (the Swiss financial market supervisory authority).

As a result, the FINMA has decided to toughen financing conditions to restrain this type of investment. Since January 1, 2020, investors have been obliged to mobilize at least 25% of own funds and amortize the first part of their debt.

A sign of overheating or is the rental market low risk?

Rental investment is mainly dependent on two factors – the health of the employment market and immigration. As these two variables are at risk during a recession, the question of whether or not fears about a rental market crisis are justified must be asked. We believe the answer is no.

Take the first factor – in the previous article we explained that the employment market had shown a degree of resilience faced with the health crisis thanks to the support measures announced by the Swiss Confederation. If the measures to ease lockdown conditions announced by the Federal Council are conclusive, a substantial increase in the unemployment rate should be avoided.

As for the second factor, Switzerland recorded a net influx of 69,000 people settling to work in 2019, according to the Secretary of State for Migration. Slightly down in recent years, this migratory trend is mainly due to Italian and Portuguese immigrants. Attracted by the economic recovery in their home country, they decide to return. However, since the positive economic forecasts are no longer relevant, we expect net migration to stabilize, which will support the demand for rented accommodation.

The national vacancy rate was 1.66% on June 1, 2019, according to the Federal Statistical Office with big differences between cantons, which seems to confirm this hypothesis. Despite a minor rise in the vacancy rate, high demand for rented accommodation persists, particularly in the most urban cantons.

*according to a study by Credit Suisse

What are the advantages of rental investment?

Boosted by negative interest rates, this form of investment benefits from positive conditions. It also offers some advantages including freedom of choice compared to indirect real estate investments.

Attracted by the assessment of the real estate market in Switzerland, many private investors (often long term property owners) acquire a rental property for their later years. Once retired, they decide to sell their original property to acquire capital gains.

Some private investors look at the possibility of providing accommodation for their children when they leave home.

Others see an opportunity to meet the growing demand for short-term rental with platforms such as Airbnb and Booking.com. With the possibility of higher yield than traditional rental, short-term rental often has an occupancy rate that is inferior to that of long-term rental and requires more active management.

This form of rental is also largely dependent on the dynamism of the tourist industry, which can go against the investor in the event of economic slowdown, as we have recently seen.

It is, therefore, important to analyze the private investor’s economic situation before they make a purchase. Such an analysis will help find a financing solution that optimizes the financial burden associated with the property acquisition while minimizing the risks from negative external forces such as those indicated above.

Real estate financing

Used by the FINMA to regulate the mortgage market, the conditions for granting credit or “financing” are inseparable from the real estate market. The most recent example of this was the removal of the banks’ countercyclical capital buffers. This measure gave the banks more freedom in granting credit, aimed at alleviating the economic consequences of the coronavirus.

Despite the resilience of the real estate market discussed in this article, we should remember that any investment involves risk. Whether it is for a primary residence, rental investment, or mortgage renewal, poorly structured real estate financing exposes the purchaser to several risks.

Take the surprisingly under-reported case of households that took out a mortgage loan more than ten or so years ago. At the time, some financial institutions were a little less careful concerning the ability of households to bear mortgage charges on retirement. And when the mortgage loan expired, some households were refused the renewal of their loan due to a current lack of income.

The theoretical charge of 5% of the interest rate that corresponds, within a few decimals, to the average interest rate of the last five years, is often problematic. Indeed, financial institutions require owners to have a level of income three times higher than the theoretical costs of home ownership. There are, however, a few solutions for households who do not fulfill these conditions today.

Now, despite optimistic forecasts about the Swiss real estate market, some households may find themselves at risk without a downturn in the Swiss economy. In light of this, it is advisable to contact a mortgage finance broker for any real estate project. They will find the best financing structures according to the client’s situation and support them in making strategic decisions.

The information contained on this website is for information purposes only. This information can in no way be construed as a recommendation, invitation, or offer to conclude a contract, nor to purchase or sell real estate.