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Do you want to buy a home or an investment property? Then there’s a high likelihood you’ll need a real estate loan, as few private households in Germany can afford to finance a property outright. But what exactly is a real estate loan, how much can you afford, and what should you consider when taking out such a loan? This post will provide all the important information about real estate financing.
What is a Real Estate Loan?
Whether it’s called a mortgage, construction loan, real estate financing, or building finance, these terms are all synonyms for a real estate loan. However, nearly all real estate loans have some common features
Secured by land charge
The financing bank secures the loan with a book land charge in the land register.
Financing amount from €50,000
Banks typically offer real estate financing starting from €50,000. Less expensive properties are financed through regular loans with higher interest rates.
Purpose-bound loan
A real estate loan is exclusively for purchasing, constructing, or renovating a property.
Fixed annuities during the interest fixation period
The payment amount remains constant during the term, with only the interest and principal portions varying.
Combination with other loans
A real estate loan can be combined with favorable loans from KfW (Reconstruction Loan Corporation).
When you take out a real estate loan, it usually is in the form of an annuity loan where your monthly rate remains the same. In the beginning, you pay more interest, and with each payment, the interest portion decreases. Typically, a residual debt remains at the end of the interest rate fixation period. You can either pay this off or refinance it through follow-up financing.
If you have a loan without a final balloon payment, it is considered a full repayment loan. Of course, you can also make special repayments to reduce your remaining debt or pay off your loan faster. Note that most banks charge an interest premium for special repayments.
How much Real Estate Loan can I afford?
When considering real estate financing, you’re likely wondering how much of a loan a bank can provide you. This is important to know before you start searching for a house or apartment, so you understand what budget you should plan with.
Our article “How Much House Can I Afford?” offers a practical approach to calculating the right house value for your personal situation.
As a landlord, I have a guideline for the maximum rent a tenant can afford. Many banks use a similar approach to calculate your maximum loan payment for a mortgage. You should spend no more than 35% of your available household income on the loan payment. So, if your household income is €2,500 net, you should allocate €875 for the loan.
If your partner also earns €2,500 net, then your combined household income is €5,000 per month. You could therefore afford twice the monthly loan rate.
In practice, you should plan to spend no more than 35% of your monthly income on the loan payment.
Ultimately, many factors determine how much of a real estate loan a bank will offer you. Primarily, the amount of your real estate loan depends of course on the purchase price of your property.
But your financial situation also significantly affects your borrowing capacity. Do you currently have consumer loans, a car loan, or even negative credit features? All these factors influence your real estate loan.
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What conditions should you consider for your Real Estate Loan?
Once you’ve found a suitable property, you should also consider the conditions of your financing. Important factors include the loan interest rate, the term of the loan, the option for special repayments, the repayment component, the equity contributed, or the residual debt at the end of the contract. In the following section, we will address the most important factors.
The interest rate of your real estate financing
In the 1990s, borrowers paid about 8% interest on their real estate loans. Today, interest costs at that level are unimaginable. Those buying a house or financing an apartment today can expect an interest rate of around 3.5% with good creditworthiness. Remember that the bank makes money from the interest. The higher the risk of lending, the higher the risk premium, i.e., the interest rate of your financing, must also be. Ultimately, the specific interest rate depends on your creditworthiness, the financed property, the interest fixation period, and the equity brought in. If you have good creditworthiness and a high income, this will positively affect your conditions. Additionally, you can put more money into repayment, thereby reducing the bank’s risk. An important factor affecting your interest rate is the financed property itself. Suppose you buy a plot for €250,000 and want to build a house valued at €500,000. However, the bank assesses the plot at only €150,000 and the house at the stated €500,000. In this case, you would apply for a loan of €750,000, although the bank’s valuation – from the bank’s perspective – is only €650,000. The €100,000 difference is an unsecured portion of the credit and will lead to increased interest costs. This is due to the higher risk in case of a forced sale.
Interest fixation on the mortgage
Let’s look at interest fixation. We will examine this in more detail later. For now, it’s enough to say that a longer interest fixation period leads to higher interest rates. The same applies to additional options like an adjustment of the repayment during the term or special repayments.
As you can see, numerous factors can influence your interest rate. For this reason, you should compare several banks and always seek an open discussion with the bank advisor. From my perspective, interest fixation is an important condition of any financing. As an owner-occupier, I want planning security in real estate financing. Conversely, as a capital investor, good financing conditions are important to me. In my commercial activities, I focus on options for early termination of the loan. What I want to convey with these various aspects is that the perfect interest fixation depends on you and your preferences. If you want to finance a home, then you should consider how quickly you want to repay the loan. Also use special repayments to reduce your residual debt. Experience shows that many investors manage to pay off a real estate financing after about 20 to 25 years. However, terms of 30 to 35 years are not unusual!
Interest fixation for owner-occupiers vs. investors
As a private investor, you should enforce a long interest fixation with good interest conditions to benefit from maximum security. As a capital investor, you can benefit from refinancing your property, so the interest surcharge with long interest fixation periods is not always advantageous. If you have already reserved a large portion of your household income for loan repayment, then use a longer interest fixation period to counter potential interest rate risks at the end of the term. Ideally, adjust the interest period so that you have fully repaid the entire home at the end of the loan. If you use a property for capital investment, refinancing after a few years can make sense. Why this is the case, you’ll learn in the article on refinancing real estate.
Special repayments in real estate financing
Many local banks offer special repayments in their standard loan contracts. If you are an owner-occupier, then you should make use of special repayments as often as possible. As an owner-occupier, you cannot deduct interest costs for tax purposes. Therefore, you should keep your interest costs as low as possible. Since interest is calculated based on the outstanding loan balance, every special repayment made reduces the interest load of your financing and increases the repayment portion of each further payment made. However, the situation looks different if you act as a capital investor or investor. Interests are costs in an investment and can be deducted for tax purposes. Thus, interest reduces your taxable income from real estate. With special repayments, you reduce the interest portions in the rate and thereby increase your taxable income. If you already pay a high income tax rate, you should rather use the capital for further investments.
Special repayments on the real estate loan
As an owner-occupier, you should make use of the option for special repayments to reduce your interest burden in the following years as much as possible. As a capital investor, special repayments are not recommended during the growth phase. If you want to remove risk from your investments, then special repayments are a good choice.
Choosing the right repayment in the loan
The choice of the right repayment amount largely depends on your standpoint. From the perspective of an owner-occupier, a higher repayment is preferable. Of course, this depends on the individual circumstances. However, a total annuity of 5% of the loan is generally a good approach for a private real estate loan. However, the amount of the repayment should not become a burden if household income decreases. To secure yourself against a decreasing household income, you can have a clause for adjusting the repayment included in the loan agreement. This usually costs an interest premium but can increase the flexibility of your real estate loan.
How much equity should be put into the real estate loan?
A question that regularly arises when buying or building a property concerns the equity contribution. Essentially, the capital to be brought in largely depends on your personal creditworthiness. As an investor, I have previously purchased properties without equity. The reason for this was that the interest costs were low, and the property was sold too cheaply. Despite a 115% financing, the property still generated cash flow. On the other hand, equity brings security. If you are building a house or buying a condominium for personal use, I would recommend you at least cover the purchase-related costs with equity. The following costs arise when buying a house:
Description Percentage
Real estate transfer tax 3.5 to 6.5%
Notary fees 1.5%
Costs for the land registry office 0.5%
Real estate agent’s commission 0 to 7.14%
Total 5.5 – 15.64%
In the best case, you should bring at least 5.5% equity. In the worst case, at least 15% should be brought in. Many banks calculate with an equity contribution of 20% for house construction. If you can buy a property well below market price, such that the bank values the property higher than your purchase price, then this rule does not apply. Generally, financing without equity is still possible today if all other conditions fit! In principle, however, you should pay off private debts as quickly as possible. Should life not play out as you wish, you certainly do not want to have high liabilities. A paid-off home is a haven in turbulent waters and should be viewed as such.
The residual debt on the real estate loan – how to handle it
Finally, let’s take a look at the residual debt of your real estate loan. If you have chosen an interest fixation period of 15 years and have repaid about 60% of your loan during this period, the question arises at the end of the term how to proceed with the remaining 40%. Basically, you have several options:
Continue the loan at the current interest rate: When your real estate loan expires, the bank will not withdraw the open amount from your account. Instead, the loan continues even after the term of the credit ends. However, different conditions now apply, which are based on the current market interest rate.
Close a follow-up financing: A better option is often follow-up financing. The bank reassesses your property in the course of follow-up financing. In the best case, you have recorded a value increase in addition to the repayment. The mortgaging of your house is thus lower, and the financing costs are more favorable.
Close a forward loan: The forward loan is rather something for real estate investors. If you notice during the existing loan term that interest costs in the market are rising, you can already secure a loan for the future today. The interest rate is usually a bit higher, but if the key interest rate increases rapidly (as in the case of an interest rate turnaround), you secure attractive financing conditions in this way.
Repay the loan: The simplest approach is the repayment of the loan. If you have accumulated enough capital in ETFs, stocks, or simply in your account, then you can use this to repay your loan. In this case, you have no further debts with the bank and can use your income for new investments.
Personally, I would close follow-up financing for capital investment, whereas I would calculate a full repayment during the loan term for a home.
Documents you need for Real estate financing
Many homebuilders and real estate buyers finance their property through a regional bank, savings bank, or cooperative bank. Depending on the financing volume, bankers are often both advisors and credit decision-makers, so professional preparation for the credit inquiry is recommended.The idea is to prepare all documents for financing and hand them over completely to the banker to ensure as smooth a process as possible. In practice, the bank needs the following documents for the credit inquiry:
Data about the property (year of construction, living and usable area, modernizations, plot area, etc.)
Income proofs for employees, tax assessment and business evaluation for self-employed
Proofs of equity (bank statements, portfolio statements, home savings contracts, etc.)
Proofs of existing liabilities (loan agreements with installment plans, leasing contracts)
Current identification documents (ID card or passport)
If you are privately insured, retired, or self-employed, then the banks will request corresponding proofs. In general, you should go to the bank with complete documents to make the application process uncomplicated and simple.
Where can I close a Real Estate Loan?
You can actually close a real estate loan at any bank. However, experience shows that local banks are often a good choice. They know the individual locations and evaluate them more fairly. However, a supra-regional bank can also be a good point of contact for your real estate loan. Especially the large commercial banks sometimes offer their customers attractive conditions. For this reason, you should inquire about the conditions for real estate financing at several banks. The mentioned conditions are not binding at this stage and ultimately depend on the detailed examination of your credit inquiry. A comparison of different providers can also be achieved through a financing advisor like Dr. Klein, Interhyp, or Tecis. These financing advisors can usually provide numerous credit conditions. However, if you compare the offers between the direct credit inquiry at a bank and the inquiry through the financing intermediary, the conditions at the intermediary are usually slightly worse. Experience shows that the banks pass on the commissions paid to the intermediaries in the interest rate. The intermediary can waive part of its own commission and thus offer you a better interest rate. Which way is better for you is always a matter of personal preference. If it were up to me, I would make direct inquiries at the local banks.
Conclusion: The real estate loan as a key to wealth building
Whether you want to finance a home or a rental property, the right real estate loan is the key to success. Buying with cash is only a real option for a few property buyers. The perfect financing depends on your personal circumstances. If you have a high income, you can afford a higher loan rate. Also, consider that real estate financing has a long-term character. Accordingly, you should also include risks such as unemployment, illness, or a decrease in salary in your calculation. Otherwise, other types of credit might be more suitable for you. Additional options such as special repayments or an adjustment of the repayment rate cost an interest premium, but can make sense for hedging risks. Your local banks are available as competent contacts. If you want to compare supra-regional credit offers, then a financing intermediary is the right contact person. Have you already financed a property and want to share your experiences with us? Feel free to leave us a comment.
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Questions & Answers
The question of how much property you can afford is one that almost all real estate buyers ask themselves initially. A good approach is a factor of 80 to 100 times your net household income. So if you earn €3,000 monthly, this corresponds to a loan volume of €240,000 to €300,000.
In general, this question depends on your income and creditworthiness. If you are buying a home, you should ideally bring some equity. You should finance the purchase-related costs from your own funds as much as possible.
In the case of a capital investment, it is not unlikely that a bank will finance the purchase costs if you have sufficiently good creditworthiness. It is best to calculate the property so that the additional unsecured portion of the credit does not sustainably impair your creditworthiness.
A good guideline here is 35% of the available household income. If you have a correspondingly high household income, you can repay the loan faster. Always ensure that you do not financially overburden yourself. Do not plan for salary increases at the beginning and simply use a better income for special repayments in the future.
For banks, only regular cash flows count in the calculation of income. This includes the following incomes:
– Salary and wages from an employment relationship
– Income from self-employment
– Interest on savings accounts
– Dividends from your stock or ETF portfolio
– Rental payments
– Child benefits and other social benefits
– Alimony payments
– Side incomes
A stroke of fate can strike anyone and change the entire life concept from one day to the next. No one is protected from an unexpected separation, illness, unemployment, or even a death in the family. For this reason, there are several options to financially protect yourself and your relatives:
– Residual debt insurance: If you become seriously ill, unemployed, or die, the residual debt insurance protects you and your relatives from a payment default. Such risk insurance is a costly option and is especially recommended if there is not sufficient assets on the credit side.
– Disability insurance: Another option for securing the loan is disability insurance. If you are unable to work due to illness, you will receive a corresponding pension, which you can use for your real estate financing.
– Private assets: Do you have a stock portfolio and have built up a considerable portfolio over time? With this capital, you can secure your loan and pay the rates in case of an emergency.
– Term life insurance: Term life insurance is often sold by banks. Basically, this insurance secures the death of the borrower and ensures the repayment of the loan in the event of death.
