The mortgage leverage effect

Real estate gives good returns thanks to the leverage effect created by the mortgage. The leverage effect allows you to invest more than your available equity, in general three to four times more. Thus, you will receive rent that is based not on the value of your equity, but on the value of the property.

Example: For property worth CHF 1'000'000.- which brings in net annual rent of CHF 50'000.-, the rate of return “property” is 5%. But is you have obtained a mortgage loan of CHF 750'000.- and you have invested your equity in the amount of CHF 250'000.-, your rate of return “equity” will be 20%. In this case, the mortgage provides a leverage effect of 4 times your equity.

Since it is currently possible to borrow at lower rates than the standard rate of return for a rental property, in general between 4% and 6% and if one considers only the rate of return on capital, it is attractive to borrow. In fact, the higher the portion of capital borrowed, the higher the rate of return on equity, but the mortgage rates will also be higher.