Dramatic downturn in house prices

Most residential property prices in Denmark peaked in the 2nd quarter of 2006 and are now falling. Although house prices in Q4 2006 are still higher than in 2005, the house price rise in 2006 has been significantly lower than in previous years.

The average price of one-family houses in Denmark was down by 6.7% to DKK1,651,000 (€221,606) in Q4 2006 from Q2 2006, according to StatBank figures. The average price of flats was around DKK1,638,000 (€219,861) in Q4 2006, 4.6% lower than in 2Q 2006.

The price of owner-occupied flats in Copenhagen experienced a sharper fall, 12% from DKK2,586,000 (€347,178) in Q2 to DKK2,275,000 (€305,426) in Q4 2006. On the other hand, the price rise was sustained for one-family houses in Copenhagen; the average price has increased by 2.8% to DKK4,040,000 (€542,271) in Q4 2006 from the second quarter.

The house price index for one-family houses rose by 12.3% in 2006, significantly less than the 23% price change in 2005. The index for owner-occupied flats index was up by only 8.9% in 2006 compared to 28.5% in 2005.

Copenhagen residential property prices registered sharper downturns. The price of single family houses was up by only 2.5% in 2006, lower than the 40% change in 2005. The price of owner-occupied flats was up by only 6% in 2006, down from 39.5% price change in 2005.

End of house-price cycle

Denmark has experienced three house price cycles during the past 30 years:

• The first cycle began in 1972. Though house prices slightly dropped after the 1973 oil price crisis they recovered immediately and continued rising until 1979. From 1972 to 1979 nominal house prices rose by 96%. Finally the second oil price crisis struck in 1979, leading to a 11.3% fall in house prices between 1979 and 1982.
• The market recovered again in 1982. Prices rose by 88% between 1982 and 1986. Then from 1986 to 1993, the housing market stagnated with property prices falling by 20% (33% in real terms).
• The most recent cycle began in 1993 and peaked in the first half of 2006. Prices have risen for more than 10 years, and by Q2 2006, the owner-occupied housing index was 237% higher than in 1993. Owner-occupied flat prices had risen by a spectacular 373%. Copenhagen owner-occupied flat prices rose by 620% between 1993 and 2006, outperforming almost all other industrialized countries.

Strong economic growth, low interest rates and the introduction of new mortgage products pushed house prices up in the most recent upturn. Denmark’s economy grew at an average of 3.27% per year from 1995 to 2000. GDP growth slowed to 0.95% between 2001 and 2004 but recovered to 3.1% in 2005, and 3.2% in 2006.

After the slow liberalization of the Danish mortgage industry over the last decade, there is now an innovative mortgage market with many new products being introduced, especially variable interest rate products.

Adjustable rate mortgages were introduced in 1996 and their market share has risen quickly since 1999. As sold in Denmark, they have many similarities to the US adjustable-mortgage system, where borrowers can refinance loans when interest rates are low, but “lock” in fixed rates when interest rates are rising. In effect, borrowers can take advantage of falling interest rates but are protected from rising rates.

Oversupply; interest rate adjustments

There are two major reasons seen for the current house price downturn: oversupply and an increase in interest rates.

Rapid price increases since 1993 and the lack of housing in major cities have prompted a boom in new construction in recent years. Around 26,000 residential units were completed annually from 2003 to 2006; significantly higher than the annual average of 16,000 units between 1995 and 2002.

Interest rates in Denmark, as in most of Europe, have risen from their historic lows. The official lending rate of Denmark National Bank was raised seven times to 3.75% in March 2007, up from the all time low of 2% between June 2003 and Nov 2005. Effective mortgage interest rates have risen to 5.4% in March 2007, from 3.7% in January 2005.

Crippled rental market

The private rental market is strongly pro-tenant. It is saddled with extensive rent controls and highly influenced by a huge social rental sector. Rapid price increases combined with strict rent controls have led to low rental yields in Denmark.

Rents are generally fixed by law and are not reflective of market conditions. About half (52%) of the 2.4 million housing stock in 2005 is owner-occupied. The rental market comprises about 46% of the housing stock while other categories comprise the remaining 2%. Of the 1.14 million rental units, about 40% belong to the private rental market (18% of the housing stock).

Only rental dwellings constructed after 1991 (about 10,000 to 15,000 units) are exempt from rent control (less than 1% of the dwelling stock). Approximately 60% of private rented dwellings were built before 1940 and only about 11% were built after 1980. In fact, rather few new private rental dwellings are now being built. On the other hand, less than 5% of social housing dwellings were built before 1940.

Although there has been a slight decline in owner-occupancy in favor of social housing, this is due to the rise of single person households. Owner-occupied dwellings which cater mainly to families receive generous benefits from the government. Aside from mortgage tax relief, house owners are also entitled to a standard deduction for home maintenance. About 21% of households in Denmark receive housing subsidies from the government; the highest rate in EU.

Five different forms of rent control

There are five different forms of rent control in Denmark depending upon the age of the building, and the system is very complex. Landlords are allowed to pass on costs (property taxes excluded) incurred in the day-to-day operation of the property, and a prescribed charge to cover maintenance costs.

They can also pass on a capital charge, which can vary between 7% and 14%, with properties built after 1963 getting higher amounts. However, the capital charge is calculated on the basis of the value of the house in 1973 with no allowance for inflation.

If the rent is substantially different to that for comparable tenures in the same residential area, both the landlord and the tenant are entitled to ask the Rent Tribunal for the rent to be adjusted.

Properties of less than seven dwellings are covered by different rules relating to the “value of the rented property,” but the result is much the same, as the property gets older, effective rental income returns fall. If the Rent Tribunal fails to reconcile the landlord and tenant, cases can go to a special division of the Country Courts called the Housing Courts (Boligretter).

The system is confusing. “It is not possible for lay people to properly calculate the maximum rent applicable to a particular tenancy,’ notes the EUI report on Danish Landlord and Tenant law. “This is the cause of many legal disputes, which must be resolved by the judicial system.”