Rental caps and landlord taxes part of an enduring German tradition

The talking is over. The SPD grass roots have weighed in with resounding approval of their party’s plan to join Angela Merkel in government, and – a full three months after the elections - Germany finally has a workable coalition with a clear agreement as to how the country is going to be governed for the next four years.

The ministerial jobs have been doled out, the old guard have been escorted out the door, and the country’s first female defence minister has already donned her khakis to head the mission to bring Germany’s finest Christmas stollen and lebkuchen to the serving troops in Afghanistan.

The negotiations lasted so long because ideologically, the parties were at odds on so many issues. Frau Merkel lacked only five seats for an absolute majority, but given the wipe-out of her erstwhile partners the liberal FDP, and the impossibility of governing with the Greens or the hard left, a Grand Coalition with the left-of- centre SPD was the only feasible option left.

The SPD under the engaging Sigmar Gabriel has been taking its time to make sure the coalition agreement is stuffed full of its pet projects. The party can’t afford to repeat the debacle of the last government but one, when after its last Grand Coalition with Frau Merkel, it was subsequently decimated at the polls. Not this time, of that it’s going to make sure.

For real estate investors the key issue is the government approach to affordable housing. It’s not just the SPD that is committed to introducing a rental cap on German residential housing, the so-called Mietpreisbremse. All parties have integrated the measure into their manifestos – although somewhat watered-down from earlier even more radical versions, the latest rental cap enactment is one of the pillars of the new government that they all agree on.

Make no mistake about it. The Mietpreisbremse IS coming in this legislature period, whether we like it or not. The only question is – which investors are likely to be affected by this, and how.

As it stands, Germany’s 16 federal Länder are being given an initial five-year right to impose a maximum 10% rent increase above the local rent table in defined areas – areas where there is a ‘known’ housing shortage. This could apply to almost any of Germany’s largest cities, if taken at face value.

Exceptions to this are first-time lets in new-build apartments and new leases after ‘comprehensive’ modernisation. A possible further exception is that future lease agreements can be ‘at least’ at the level of the past agreement.

In practical terms, the Berlin government has largely handed over responsibility for the concrete formulation and execution of the new measures to state and local government. These will have to categorise and tabulate all affected neighbourhoods. It goes without saying that this could be a long and complicated process, and might even be contested in the local courts.

However, these potential stumbling blocks also offer a glimmer of hope to many investors that the whole procedure could get so bogged down in murky uncertainty that it’s not worth bothering about. If so, they are probably underestimating the political will in Berlin to intervene to discourage profiteering in housing markets – a tradition which has a long and noble pedigree in Germany’s history.

Naturally the real estate industry, including its housing and landlord associations, is universally against the measures, with plaintive cries from industry leaders up and down the land that the rent freeze will hinder investment in existing housing, and will reverse the current enthusiasm for new much-needed house-building, which is still so visible across the country.

Landlord associations had been hoping that as compensation for accepting the Mietpreisbremse, the government would reintroduce a regressive depreciation tax measure, which would enable builders to write off their investment faster in the early years. But this deal is now definitely off the table. So there’s no succour there.

The reality of the rental cap is not the only disappointment for landlords. In future, at most 10% of any modernisation costs can be passed on to tenants, and THAT only for the length of time it takes to pay the modernisation costs in full. The government has also reserved sweeping rights to impose penalties on landlords where they are grossly negligent in making necessary upgrades. Slumlording is not an option.

A recent FERI study highlights the undesirable side-effects of all this already, even before the introduction of the new laws. These include landlords now constantly raising rents to legally permissible levels (an unusual practice in the past), knee-jerk reactions from landlords to impose special charges on tenants, or selling apartments in multifamily houses to individual tenants.

In other words, the threat of the legislation has already been sufficient to alter behaviour at the expense of tenants. This may be understandable, but it is part of a pattern that is contributing to greater uncertainty for investors. After a sustained positive run of several years, that sentiment could easily go into sudden reversal.

We report in this issue on the study compiled by consultants Wüest & Partners which highlights how moderate rental increases have been in the secondary cities which are less affected by housing shortages. These could indeed turn out to be the hidden champions in 2014 and beyond for investors prepared to spread their wings a little.

In the meantime, we wish all our readers a Happy Christmas and further prosperity in the New Year.