Is there money to be made in Spain?

Hundreds of thousands of British investors now own homes in Spain and many will have made a killing. But it is getting much harder to find a bargain, says Emma Thelwell

Why do the British buy in SpainFor the weather, obviously. But also because it is easy to get to, thanks to the glut of low-cost airlines offering cheap and frequent flights. And because it is cheap compared to Britain: council tax rates are roughly a tenth of those in the UK and petrol prices are a third cheaper than here. As a result, Spain is by far the most popular destination for British investors: more than 750,000 of us own our own hacienda in the sun, and around 160,000 Brits have settled there permanently. And not all of these are pensioners looking to enjoy their retirement there. A recent ICM survey for BBC2 found that it is where 24% of 18-24-year-olds would most like to make a new life.

How has this affected the Spanish property market?

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The persistent influx of Brits has induced a boom that has seen prices rising for the last few years they were up an impressive 17.4% in 2004 alone. The Spanish property market attracts around £12bn a year from British investors (equivalent to almost 1.5% of Spanish GDP), and it's predicted to rise to £21bn annually by 2009. But this isn't a new fad: Britons have been investing in Spain since the cheap package-holiday boom of the 1960s and 1970s, when holidaymakers returned to snap up cheap coastal villas.

Is Spanish property cheap?

It was until a few years ago. Traditionally, Spanish property was priced at a large discount to the UK. Now, the prices are nearing UK levels in some areas. Indeed, a recent survey by the Royal Institution of Chartered Surveyors (RICS) found that, just as London traditionally leads the way with property prices in the UK, European holiday destinations seem to follow Britain's market trends too. The recent demand drove the Spanish construction industry to hit record highs last year, with 700,000 new-build properties that's more than the combined total of Germany, France and the Benelux countries. Over the past six years, new-builds have been a predominant feature of the Costas financed by investors buying off-plan plots (see box, below), who expect to sell the homes for a healthy profit once they are built.

Will prices continue to rise?

Not necessarily. Spanish property may be booming now, but the days of making a quick buck could be over. Prices for villas and flats in the Mediterranean are peaking, leaving them vulnerable to a drop. The market for second homes is very volatile owing to its dependence on the UK market.And depressed consumer confidence, combined with a general slowdown here, have made British buyers a more cautious bunch. Holiday homes are the first things people dispose of when they have to economise, and Spain could be hit hard because of the numbers of amateur investors who have bought in the last five years. The UK slowdown is already being reflected in the Spanish market: the average time to sell has risen over the last 12 months, and the desire for new-builds is drying up. In some areas, such as the Costa del Sol, there is now a surplus.

So should one avoid Spain for now?

The market may be cooling down, but most analysts reckon that, if a home is what you want, then Spain is still a decent place to invest at least in the long term. Cheaper transport, easier ownership rules within the EU and rising incomes, make Spanish property a worthwhile long-term investment. But those looking to make a quick buck need not jump on that plane. As a short-term investor, you'd be better off looking at cheaper destinations, such as Portugal. Nonetheless, property prices across Spain vary dramatically. Bargains can still be found inland. The coast is more expensive, although the cheapest part is Costa Blanca, where you can still pick up a four-bedroom villa for £250,000. In the fashionable Costa del Sol, you could pay £500,000 plus.

Are there any hidden risks?A few. Anybody thinking of buying certainly needs to do their homework. Use the internet to get a feel for area prices and quiz local Brits: they won't be shy of telling you which estate agents to avoid and will probably throw in a cautionary horror story. No matter what your estate agent says, hire an independent lawyer ask the local bank for a good one. Be careful you are making a major capital outlay on an asset priced in euros; transferring sterling can prove costly and is subject to currency fluctuations, so it can be worth using a specialist currency dealer. And don't let yourself become a victim of Ferrari syndrome' getting swept away with the romance and beauty of it all and overreaching yourself. Remember your limits and stick to them. Be realistic and practical: property as an investment isn't a golden goose, it's a business.

Does off-plan mean easy money?

'Off-plan' means buying a property on a development before it is completed. A year ago, such purchases made up a massive 70% of the Spanish market, but be warned: it can be risky, as two MoneyWeek readers found out. In October 2002, they paid a Euro 96,000 downpayment on a Euro 300,000 townhouse in Marbella, which they hoped to sell for around Euro 360,000 on completion a year later. But once finished, it didn't sell - they later found out that the house hadn't been built to the original plans. Last summer they were told it might sell for Euro 285,000, Euro 15,000 less than the purchase price. Nearly three years on and the property still hasn't sold, the couple haven't got their deposit back and they have spent Euro 2,850 on legal bills disputing the altered plans.