What is a tax lien certificate? A tax lien certificate is a certificate given to the highest bidder at the tax auction for payment of unpaid property taxes. Once the certificate is issued to the highest bidder, the homeowner then has a certain amount of time or redemption period to pay the delinquent property taxes plus the state mandated interest. Because each state and county is different, redemption periods range from 2 months up to 4 years and interest rates vary from 8% up to 25%. The longer the homeowner fails to pay off the government issued tax lien certificate, the more he/she would pay in interest and penalties.
It all starts with the delinquent homeowner. We all know how property taxes are calculated when the assessor comes out to appraise the piece of land or property and give it an assessed value, which in most cases in lower than what the property is worth. Each city then has a specific tax rate that is applied to assessed value and this value is how much a homeowner would owe each year on their property taxes. Some states have much higher property tax rates than others. In any case, most homeowners prefer to pay these property taxes with their mortgage payments. That way they are forced to pay their property taxes each month and not get stuck with a huge bill at the end of the year.
If the homeowner does not make his/her mortgage payments, then chances are the property taxes are not getting paid either. This is the most common way for property taxes to go unpaid and tax lien certificates to get issued. Before certificates can be issued there is a public tax sale auction in which a judge will order the tax lien to be sold for the back taxes. An investor must be prepared to pay off the entire tax lien and in so doing will then receive a tax lien certificate as proof of purchase.
Then begins the time clock. The delinquent property taxpayer can payoff the debt anytime during the redemption period, which varies from state to state. See our State-by-State Summary of Redemption Periods. If the homeowner fails to pay the debt, then the investor can either apply for the actual deed to the property or foreclose.
It's important to note that not all states issue tax lien certificates either. Some states issue you the actual deed to the property. So you need to know yours states laws and if your state issues tax certificates or tax deeds. This is important because the auctions are different for each. At tax deed auctions you are bidding for the actual deed, at lien auctions you are bidding for interest rates... literally.
At tax sale auctions, again depending on the state, there are a few methods of bidding for the right to pay off the delinquent property taxes. One method is bidding down the interest rate. If the interest rate is 16% per annum and there are competitors, you start bidding to see who will pay off the back taxes for the lowest interest rate. So starting at 16%, then bidding down to 12%, 11% and so on. The other method is premium bidding, meaning you are willing to pay a premium or more for the tax lien so you can get the interest. The interest is only calculated on the original tax lien amount, so whatever you bid above the tax lien amount, you lose. In either case both methods will land you a tax lien certificate if you are the high bidder.
A Tax Lien is exactly what is sounds like... it's a lien on a piece of property to ensure taxes are paid each year on the property. If you own real estate, you know that you have to pay taxes on the property you own each year, regardless if there is a house on it or not. Much like a mortgage company will place a lien against your property when you borrow money to purchase a home, the government will put tax liens on properties as a way to ensure they get paid. Failure to pay your property taxes could result in the issuance of a tax lien certificate.
Most homeowners don't realize that if they fail to pay their property taxes, investors can actually bid at county tax lien auctions for the right to pay the property taxes in behalf of the homeowner. The highest bidder receives a tax lien certificate. In return for paying the delinquent property taxes, the property owner agrees, by it's states mandated laws, to pay a specific penalty. This penalty ranges anywhere from 16% to 24%. In one state, the penalty gets as high as 50%, which is a huge return for paying someone elses property taxes.
Tax Certificates are extremely safe! Property taxes help pay for most of the government and local county operations like fire and police depts. You and I both know when it comes to the government, they don't mess around when it comes to money. If they don't receive money to fund their services, they find ways to get paid. Unpaid property taxes cut to the front of the line when we speak of lien priority, ensuring that they ALWAYS get paid first. Yes, even before the mortgages no matter when those liens were recorded. Bottom line... you will get paid!Are there any risks by Investing in Tax Lien Certificates?
There are always risks when investing. Investing in Tax Lien Certificates is no different either. There are two main risks one that very seldom occurs however it's always good to know as much as you can when you start investing in tax lien certificates. The main risk (which very seldom occurs) would be that the home is located in the middle of some hazardous waste material that requires more money to clean up than what the property is worth and so there was a good reason the homeowner decided to leave the property and not pay the taxes. So you might end up with a property you don't want. The other risk is that your money is tied up longer than expected. If the homeowner declares bankruptcy or the property goes into foreclosure, the tax lien stays with the property, but you may not get paid until after the foreclosure auction.
Can I own a Property Free and Clear through Tax Lien Investing?
YES! However, very rarely does this ever happen and I'll explain why. All the late night infomercials and gurus will tell this is what makes tax lien investing so exciting because you could end up with a property free and clear for only the back taxes. I would venture to say 1 in every 100,000 tax liens does this ever happen and here's why. Chances are if a property owner is not paying his property taxes, he's also not paying his mortgage. Mortgage companies know that tax liens are senior to even their position. So in the event a property is going to auction and property taxes have not been paying, the mortgage companies will forward money to pay the taxes and secure their position. They will NEVER let a property go for just the back taxes. So the only chance you have is when a homeowner owns his home free and clear... no mortgages.
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