Steadily rising central Prague prices

In 2007, prices continued to rise in Prague. “You have a decent amount of upwards pressure,” says Ben Anderson of Identity Ltd. “We reckon that prices have risen by around 7% - 8% annually for the last 10 years. There hasn’t been any significant slowdown here, unlike in other European centres.”

“Central Prague is fairly dense so while there has been some new building in some districts, it has not exerted major pressure,” says Anderson. “A lot of the development has taken place on the peripheries of Prague. That is very much mortgage driven, for the buy-to-let market.

“There I wouldn’t be surprised to see some problems. There’s a lack of planning – there are plenty of planning regulations, but they don’t prevent you waking up one morning and finding that someone has built right next to your apartment.”

However in central Prague there is a lack of inventory – this is a historic city, and there is only so much of it. “Our problem is always finding excellent flats,” says Andersen. “Quality speaks.”

“In Central Prague, while there may be some slowing – but not by much.”

Many foreign buyers are buying to let to the expatriate central Prague market. However rentals are falling, especially at the top end of the market. At the lower end of the market, the process of rent deregulation (Act No.107/2006) will be fully completed by 2011, and is likely to push up rents of smaller apartments. This may suggest that the best opportunities are in smaller apartments, which already have the highest yields.

Last year’s price rises seem to be explained by genuine domestic demand, and also, to some extent, speculation of about an increase in VAT on construction works from 5% to 19%.

According to the annual report of the European Council of Real Estate Professions, flat prices in Prague at the end of 2005 were 87.3% of those in Berlin, 70.8% of those in Hamburg, 81.9% of those in Vienna, 45.5% of those in Rome, 26.2% of those in Madrid and 23.5% of those in Paris.

Flat tax for the Czech Republic!

In January 2008 the government of the recently-elected President Vaclav Klaus secured the adoption of a flat 15% tax rate on all personal income, replacing the previous progressive brackets (which ranged from 12% to 32%).

Also, corporate income tax will fall to 21% this year, to 20% in 2009 and 19% in 2010.

The lowest VAT rate will be raised to 9% from 5%, making essential items like foodstuffs and medicines more expensive. In addition, excise taxes on cigarettes will rise, and new environmental taxes will be implemented.

The measures are mildly restrictive in fiscal terms. The tax reform alone is fiscally broadly neutral, but the planned welfare spending cuts will be contractionary, and in line with the conservative preferences of the current coalition government, the burden is being shifted from direct to indirect taxes.

Fueled by investment, solid exports and rising employment, the Czech economy unexpectedly expanded in 2007, with GDP growth of 6.6%, sustaining the 6.1% growth in 2005 and in 2006. The Ministry of Finance forecasts continued stable growth, albeit at a lower level. Real GDP growth should reach 4.7% this year, and 5.1% in 2009.

The inflation rate picked up to 2.8% in 2007, which is 0.3 percentage points higher than the 2006 rate increase. Consumer price growth this year is expected to be high, at 5.5%. In 2009, a return to 2.3% CPI growth is expected, which is a value within tolerance band of the CNB's inflation targeting. The convergence of the Czech economy with advanced European countries' levels will continue.

Rental market

The high rental rates achieved in Prague during the past few years have been largely driven by expatriate demand. But the senior and middle expatriate managers who flooded into the country a decade ago have now largely been replaced by equally qualified Czechs, who are much more cost-effective for international companies, their skills honed by 10 years of “market economy” experience plus Westernized training.

The result has been an oversupply of luxury rentals. Rental prices for luxury flats and villas in Prague have fallen 20-70% since the year 2000, with the top end units getting hit the hardest.

“There is no shortage of real estate agents pushing rents for 80-100 sq. m. (~840-1,050 sq. ft.) 2 bedroom flats close to the centre for €2-4,000/month,” warns Erik Dempsey of Propertyinprague.com. “[But] even if such flats do achieve these high rents, the prospect of growth in the medium term (5-years) is nil, with a larger probability of decline.”

Despite the negative outlook for luxury rental units, smaller, low-cost rental flats (under €500/month) have good prospects for capital growth.

This is because rents will be completely deregulated as of 2011, under Act No. 107/2006. Around 750,000 flats are now subject to rent control in the Czech Republic, i.e., about 1/5 of the country's housing market. A positive aspect of the Act is that the rate of deregulation will be higher in regions with the highest degree of rent distortion, and by 2010 all rents will be within 5% of their ultimate deregulated levels.

According to the Czech Statistical Office, dwellings with regulated rentals saw their rents increase by 17.1% and dwellings with market rentals saw a 0.2% drop in Q4 2007.

Mortgage market

Though the mortgage market has been growing by 25-50% annually for the last couple of years, only about 5-7% of the potential market for mortgages has been tapped, leaving a huge market yet to jump on the property ladder.

Mortgage financing is freely available to both Czech nationals and foreign investors, and up to 85% loan to value is possible.

Mortgage interest rates followed a declining pattern between 2004 and 2005. However, beginning 2006 and into 2007, mortgage rates rose in line with the general interest rate increase within the Euro area.

New construction

Construction of 12,580 dwellings was started in Q3 2007, i.e. up 7.5% on a year earlier. A total of 8,731 dwellings were completed, up 44.3%, though this jump seems largely seasonal.

There is strong demand for modern, quality, affordable housing, as a result of the Czech Republic’s economic success, and the growth of a young middle class moving away from their parents’ rent-controlled flats. It is common to see Czechs spending 50%+ of their net incomes on mortgage payments. In response to this increasing demand, new construction starts have increased dramatically since about 2000.

The Czech Statistical Office (CSO) estimates that there is a need to finish approximately 50,000 dwellings annually until 2010 (i.e. to reach a level of approximately 5 dwellings per 1,000 inhabitants). Other estimates show 20,000 dwellings a year will be removed from the housing market due to age and deteriorated condition.