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Background:
To benefit from current favourable interest rates in my region (France: ca. 1.5%pa fixed over 20 years), I am considering investing in a buy-to-let property.

I consider that interest rates are likely to increase in the future, and inflation to be positive too. I thus want to push my mortgage ability as far as I can (reasonably).
However, I am still a bit new/naive with real-estate investment. My initial thought is that rent perceived from the house should exceeds the mortgage payment and taxes/maintenance costs (+ ideally some extra buffer), so that the house pays for itself.
(E.g. rent is 2000, when mortgage is 1500 and taxes 200.)

However, I have also been told (by someone that has no financial involvement whatsoever) that this investment could still be interesting, even if rent do not exceed mortgage payment.
(E.g. rent is 2000, when mortgage is 2200 and taxes 300.)
I could definitively afford the extra money required (in the example: 500 per month).

Question:
But "paying for people to live in my house" hardly makes sense to me. I am thus wondering:

Is it a good idea to invest in buy-to-let if rent does not cover mortgage payment?


Sub-question:
A variant of this question is with the following scenario: the bank asks for 30% down-payment.
(Consider a 1,000 house; I would thus need 300 cash.)

However, the bank accepts that I don't actually spend all this money to buy the house, but rather invest some of it with the bank and thus borrow more money.
(E.g. I spend 100 in the house, but put the other 200 in a savings/investment portfolio at the bank — so I end up actually borrowing 900 at the bank [hence the high mortgage payment])

Would it then make more sense in this situation?
(My thought is to compare the extra-cost caused by borrowing 200 more, and to check whether the 200 invested would generate more money)

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For full disclosure, I've never purchased any real state, and I've been paying rent for about 5 years now.

" My initial thought is that rent perceived from the house should exceeds the mortgage payment and taxes/maintenance costs (+ ideally some extra buffer), so that the house pays for itself."

As a initial ideia this is not bad, but I think it may be too short-sighted and an economically nonexistent situation.

The usual prospect for someone living in a well-functioning economy and housing market is that rent will pay up for all non-extraordinary maintenance of the house. It will provide a surplus income that should be higher than the Risk Free Rate on the local capital market, perhaps discounted for the applicable inflation rate, and only hopefully a risk premium.

I'll breakdown in topics what this means:

  1. Rent should pay for all maintenance the landlord is expected to pay, but not for extreme cases such as non-insurance covered issues. In simple words, if every now and then a pipe is leaking, you should expect it and the rent should be high enough to cover for it. But if a flood destroys the property, and you didn't have insurance, then that's plain bad luck for which you should hardly plan yourself or expect rent to magically cover you up.

  2. You can surely invest in "bons du trésor european" or whatever bonds issued by the local government. And these should provide you with the fair return for a negligible risk. If renting a house would provide you a smaller return, nobody would build or purchase houses for rent.

  3. A small catch with this comparison, is that, given that you or your tenant will be performing maintenance on the property,it might be expecte to grow in value over time tracking the inflation rate (though the housing market status would have at least a short-term effect over this trend). So actually, the rent minus the expected cost of maintenance should surpass the risk-free rate minus the expected inflation.

  4. Because everything up until here includes potential money losses (what if no tenant is currently renting the property? What if a garbage dump is build nearby?) and headaches (how do you take action over a non-paying tenant? How do you effectively perform maintenance?) while investing in bonds is expected to be a nearly straightforward painless experience, you would be fairly expected to earn better returns from house renting than from bonds if normal conditions are met. This additional return is the risk premium.

Having said all that, "the house paying for itself" is hardly a factor that enters the expected rent value. But I'll give you the usual cases:

  1. In a well functioning market, the property monthly rent value usually does not surpass the mortgage monthly payment. You will need to put in money while the tenant is occupying the house. Otherwise, why should the house be yours and not his when the mortgage is over? However, after the mortgage is over, the property will still pay rent, and over time it should compensate for money invested earlier, break-even , then start making a profit, and maybe much later surpass the opportunity cost

  2. Once upon a time in Brazil, people would have low credit availability on the financial system. This caused the interest rates for mortgages high, but the bigger problem was that you would have a very hard time paying the up-front value for the property required by the bank to finance the property. Those were times when market wasn't functioning well, but back then it did happen that mortgage payments were cheaper than rent. You will hardly see that happening in France.

  3. Nowadays in Brazil, and in many countries, you can do the math and find out that if you pay rent and invest the difference between mortgage and rent, a low-risk portfolio would accumulate enough capital to acquire the property sooner than the mortgage nominal duration. This means that due to market conditions (i.e. availability of real-state both ready for rent and in construction, and demand for acquiring real-state, but low demand for renting), having a property for rent is expected to be a bad investment (though the region of the property may grow in value and demand, the rent values may go up over time, there are government subsidizes that may go away, but these factors enter the speculation realm).

Regarding the subquestion, you would need to come up with some simulations, but in general, know that the mortgage interest rate in most countries surpasses the expected return of any low-risk portfolio you can build of the capital markets. Mostly because the banks could build that portfolio as well (unless your government is subsidizing real-state credit). This paragraph suggests something that is non-trivial to do (perform simulations), but if you can't do as of now, please that notice that you are also trying to speculate with macro-economics when stating that "consider that interest rates are likely to increase in the future, and inflation to be positive too". Though this is reasonable assumption, speculating with macro-economics is a much more difficult task.

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    +1 for a well-presented answer. However, I take issue with "In a well functioning market, the property rent value usually does not surpass the mortgage payment." This factor is location specific. There may be entire countries where it may be true, I don't know. In the US, properties are bought every day where the rent is 1-2% of the mortgage, and provide a return each month after expenses are paid. – JoeTaxpayer Jan 18 at 13:44
  • @JoeTaxpayer : I'm not sure I understand your comment. To put numbers, I expect in Brazil that if you pay 1kBRL rent every month, then the mortgage should be around 2kBRL. Thus the mortgage is higher than the rent by 1kBRL (or 100%). Maybe I should have said "the property monthly rent value"... – Mefitico Jan 18 at 14:52
  • Indeed, that’s where I take issue. The rule of thumb to buy a property to rent out is that the rent cover the mortgage and then some. – JoeTaxpayer Jan 18 at 14:54
  • @JoeTaxpayer : What you are considering would be a scenario where the mortgage is around 1kUSD and the rent is 1,2kUSD. My point is that this scenario indicates poorly functioning economy. Even if you disagree ao far, the point of the answer was to say that this rule of thumb should in general be "asking too much", such that it would be a poor rule of thumb that could easily cause you to discard good opportunities. Then again, depending on the risk-free rate taken into account, it could also lead into accepting poor opportunities. – Mefitico Jan 18 at 15:01
  • "My point is that this scenario indicates poorly functioning economy." - Fair enough. As I said, the ratio varies in the US. (And I admitted, no clue as the ratios in the rest of the world) – JoeTaxpayer Jan 18 at 16:11
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It would be nice if you could buy a property just using the rent. In fact, it would be so nice that nobody would rent the rent a property because it could be bought with less money.

However, a realistic goal is to make the rent cover maintenance, taxes and mortgage interests - or at least interests after subtracting inflation. If the rent doesn't cover that, you would be better saving until you could buy a property in cash.

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    It may be different in different countries, but renting for more than a mortgage happens all the time in the US. You could also say the opposite is true- if you could not rent for more than a mortgage payment, no one would rent out properties; they would just sell the house and invest somewhere else, or use owner financing and collect the mortgage payment. – D Stanley Jan 18 at 14:35
  • I agree that it may be country dependent, specially because of different down payments and time frames for mortgages. If rent of a house is higher than mortgage payments (assuming a new mortgage), there must be a down payment. Therefore, you are not buying the house just using the rent. – Pere Jan 18 at 16:50

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