Buying a home in a tax lien sale is a complicated process. Knowing the ins and outs of the process will help you make it successful. Read our guide on what to expect and how to proceed.
Definition of a Tax Lien
First, let’s look at the tax lien. It occurs when homeowners default on their property taxes. Every state has different requirements for when the tax liens are sold. Once a lien is on the property, the owners can’t sell or refinance the home until they pay the lien.
Homes located in a state with tax lien sales are subject to foreclosure if they don’t redeem their taxes within the allotted time. Among the states in a tax lien sale are Texas, Florida, and Illinois. There are several others, however, you should check with your state’s authority to see if your state participates in this practice.
Once homeowners default on their taxes, the tax collector waits a specific period of time. During that time, they may use their own collection practices. Once the required time passes, the county can auction off the tax lien and investors buy the tax certificate. This certificate entitles them to the amount of the past due taxes plus the allowed interest. If the homeowner doesn’t pay up within the certificate’s time, the investor can foreclose on the home.
Bidding on a Tax Lien
Investors bidding on a tax lien often have two options:
- Highest bidder – This is the typical auction method. Bidders try to outbid one another. The investor with the highest bid wins the tax lien certificate.
- Lowest interest bidder – This method requires investors to bid on the interest rate they will charge. The bidder with the lowest interest rate wins the certificate.
No matter which method is used, you pay the county the amount bid. The tax lien then gets transferred to you. It is now your responsibility to collect the money to make good on your investment.
If you do not receive a return on your investment (payment of the taxes) you take ownership of the property. You then have an even larger investment with potential for great return.
Benefit of Buying
It is often hard to find a good return on an investment. This is why tax liens are often a good choice. They have statutory interest rates. In other words, the state decides how much interest you may charge. If you live in a high interest state, you stand to make a good return on your investment.
The Order of Redeeming a Lien
If the homeowner does not make good on his taxes, you have the option to foreclose on the property. It sounds perfect, but there are things you must know.
Generally, tax liens have first priority of claim on the property. That is great news; unless the owner also had IRS tax liens. They get first dibs. This could leave you with nothing. It is important to do your research to make sure you know what you are undertaking.
Second, if the property has a mortgage on it, the bank may have a stake in the claim. A majority of banks won’t let the home get to this point. They will pay the taxes and keep their stake in the home. If they don’t, you may get the title free and clear, but this could be risky business.
The Benefits of Buying a Home in a Tax Lien Sale
There is one large benefit of buying a home in a tax lien sale. It’s the return on your investment. If the homeowner doesn’t redeem his property, you’ll make much more than the intended interest rate. Typically, you secure the property for much less than the value. This can provide an instant return on your investment.
There are many disadvantages of buying a home in a tax lien sale, though. First, you may not know the condition of the property. They are sold “as-is”. When you buy the certificate in the hopes that the homeowner doesn’t pay his taxes, you could end up with a nightmare on your hands. If the homeowner neglected the home, you may have to invest much more than you anticipated.
You may never see a return on your investment. This is a big one. Homeowners have the option to file for bankruptcy. This just prolongs your lien. Depending on the terms of the bankruptcy, the interest rate may be reduced or the amount owed may be decreased.
Finally, foreclosing on a property is a tedious task. If you miss one required step, you lose your rights in the property. The county/state has specific requirements including when you must notify the owners and how you notify them. If you miss one step, you may lose your chance to redeem the certificate or take possession of the property.
If you decide you want to give a tax lien sale home purchase a shot, here’s what you’ll need to do:
- Start with your municipality. You can do some research online. See what your county/state requires. You can also find a list of the properties in tax sale that are available.
- Find out the exact time and place of the tax lien sale.
- Do your research on the property. You will not be able to see inside, but you can see the exterior and do your research on the neighborhood.
- Follow any rules of your municipality. You may need to put down a deposit or simply register for the auction beforehand.
- Bid on the certificate.
- See if you win the certificate.
Once you win, you’ll have to follow the county/state requirements regarding communication with the homeowner. Pay close attention to these details, including expiration dates. If you don’t redeem the taxes and file another lien before each expiration date, you will lose your investment altogether.
The Bottom Line
Make sure you do your research and start small. Trying to bite off more than you can chew could result in a large loss on your investment.