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Is Real Estate safe from inflation?



Even if the devaluation of money through inflation was not an issue for a long time - the fear of a strong increase in inflation in the coming years is very pronounced, especially in Europe. This is not the only reason why the desire for an inflation-proof investment is greater than ever. Therefore, investors are looking at investing in real estate as a suitable inflation protection. But is this type of investment rightly so popular?


In this guide, I'll explain what is meant by inflation, how inflation-proof real estate is and whether the investment will still be worthwhile in several years.


Inflation occurs when the amount of money increases faster than the sum of all services and goods produced. Money loses value while products and services become more expensive.


Investing in a home as a protection against inflation makes sense especially if it is owner-occupied and in good condition. The aim of real estate investments is to generate an attractive return as well as to spread the risk.


For a property, especially a rented one, inflation also increases the costs. These are usually difficult to compensate with income, but can possibly be offset by an increase in the value of the property.





WHAT EXACTLY IS INFLATION?


Inflation (Latin "inflatio" = "to inflate") is understood in the national economy as the constant rise of a price level. While interest rates and prices for products and services increase, the value of money decreases at the same time.


In economics, a fundamental distinction is made between the terms inflation and deflation. Deflation is the opposite of inflation. In contrast to inflation, deflation refers to a phase in which the amount of money is reduced and services and products become correspondingly cheaper. At the moment, the inflation rate in Germany is 3.8 percent.


Even though real estate can be inflation-proof, the effects of inflation and deflation are still possible.



HOW DOES INFLATION AFFECT REAL ESTATE?


When there is inflation, real estate, like other products, rises in price. Meanwhile, money loses value. There is often talk of compensating for the devaluation of money with real estate that rises in price.


In principle, it can be an advantage to know how inflation or deflation affects real estate. If a property has been financed, inflation can have a doubly positive effect on it: Since the nominal value of the debt remains the same and the actual value of the debt decreases due to the devaluation of money, the value of the property increases at the same time.


Deflation, on the other hand, has exactly the opposite effect on real estate: While money gains in value, products and services, and thus also the property, lose value. Especially in the case of financed real estate, deflation can have serious consequences. Not only does the value of the property fall, but the loan to finance the property also becomes correspondingly more expensive.



INFLATION PROTECTION OF REAL ESTATE


The extent to which real estate offers protection against inflation generally depends on how the property is used. Basically, a distinction can be made between owner-occupied and non-owner-occupied property as well as new property or property in need of renovation, as the respective effects on this are also of a different nature.



WHAT INFLATION PROTECTION DOES AN OWNER-OCCUPIED PROPERTY OFFER?


Particularly in the case of owner-occupied property, there appears to be a certain degree of security against the effects of inflation. While on the one hand the owner has hardly any costs (ancillary and operating costs rise in the course of inflation), on the other hand the value of his property increases at the same time.


Investors can also secure good protection against inflation with real estate that is used as a retirement provision. Once the property is paid off, the rent that would otherwise accrue can be used for other purposes or to fulfil wishes in retirement.


Basically, no one can predict today how rental prices will develop in the coming years. However, it can be assumed that a reduction in rents is rather unlikely in the future. Tangible assets, on the other hand, are above the monetary value - and can thus offer owner-occupied real estate protection against inflation.


In any case, it can make sense for investors to pay attention to the so-called cluster risk: If the reserves consist for the most part of only one asset, for example the property, a possible loss in value can result in a drastic loss. In such a situation, the property would also no longer be inflation-proof.



HOW INFLATION-PROOF ARE NON-OWNER-OCCUPIED PROPERTIES?


Inflation protection is much different for properties that are not used by the owner but are offered for rent. Although inflation increases the value of the property, it also increases the costs to be borne. These are usually much higher for a rented property than for an owner-occupied property. So while the value of the property increases, the value of the money that the landlord receives as profit on the tenant's rent and operating cost payments decreases at the same time. As a rule, this can only be compensated for by increasing the rent, ancillary and operating costs - but this is not so easy to do in all locations. In addition, the landlord runs the risk of losing tenants due to an increase in costs. Furthermore, supply and demand on the real estate market play an important role here.



INFLATION PROTECTION FOR NEW PROPERTIES OR PROPERTIES IN NEED OF RENOVATION


When assessing the inflation protection of real estate, however, the individual case must always be taken into account. Inflation also has different effects on new properties or properties in need of renovation.


As a rule, newer properties are better suited to inflation protection than properties in need of renovation. If a property is due for renovation, its inflation protection can be reversed. However, older properties are not only inflation-proof due to their need for renovation, which is associated with high costs - there can also be significant regional differences in this respect.



REAL ESTATE AS INFLATION PROTECTION - DOES AN INVESTMENT MAKE SENSE AT ALL?


In order for real estate to effectively serve as inflation protection, there are some basic things to consider. For it is not only the location of the property that plays an important role in relation to the constant growth of cities - an investment can also be worthwhile in the long term due to the very probable increase in rental and purchase prices.


The extent to which investing in a property to protect against inflation is worthwhile depends on the individual case. In general, owner-occupied and well-maintained properties in particular tend to be inflation-proof, but inflation-proofing can be difficult in the case of rented properties or properties in need of renovation. The extent to which inflation protection applies to individual properties also depends on the purchase price and on supply and demand on the real estate market - not only necessarily on the inflation trend.





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