Buyer Beware: Before buying tax liens know what you’re getting
Caveat emptor: let the buyer beware. It may be cliche, however, examination of dozens of tax liens indicate that if the liens aren’t redeemed, the lien holder could be left holding the bag.
Vacant land that doesn’t meet zoning and code regulations for construction or agriculture, run down buildings, houses with no roof, houses in bad neighborhoods and even houses that are no longer standing, can all become part of a tax lien sale.
How does it work
In some states, when property taxes are delinquent for a certain number of years, a municipality will take title and hold a tax auction, giving immediate ownership to the highest bidder.
In other states, taxing agencies conduct what is known as a tax lien auction, a more complicated way to take possession of a property whereby the taxing authority issues a tax lien certificate investment document.
When purchasing at a property tax auction, when payment is completed, usually within a specified number of days, the taxing authority will sign over the deed and title to the property. The redemption period for the previous owner has ended and the investor has immediate possession in most instances. Less frequent is the need to evict the previous owner.
When purchasing a tax lien, the certificate gives the investor the rights to the tax-related debt associated with a property, plus interest. The taxing authority assigns a fixed rate of interest to each certificate. The holder of the certificate collects interest on the tax debt until it is paid in full. In order to satisfy the tax debt, the taxpayer has to pay the outstanding debt plus interest.
According to Forbes, approximately $426 billion in state and local tax on real estate is owed in the U.S. each year. Twenty-eight states, Washington, D.C., Puerto Rico and the U.S. Virgin Islands allow those liens to be sold to private investors, and about $6 billion in liens come up for sale each year. The local government gets its cash immediately, and the buyer gets the right to collect the delinquent tax, a penalty and interest on the late payment that can run as high as 12 to 36 percent a year, depending on the state.
Interest rates vary by the jurisdiction or state where offered, according to the National Tax Lien Association. Florida offers a maximum interest rate of 18 percent while Alabama offers a fixed rate of 12 percent. Arizona has an interest ceiling of 16 percent and Iowa offers a two percent per month on the unpaid balance.
Using a tax lien firm
Tax lien investment firms acquire, manage and service the liens they successfully bid. Investors are attracted to tax liens because they don’t require a large amount of capital, they have the potential to generate a decent return and the investor doesn’t have the responsibility of actually owning the property.
Or do they?
One investor, who purchased through a company, said he assumed everything was going good when out of the blue he received a call from the city treasurer where the property was located and asked when he was going to pay the demolition fee. It was only then he learned that the home had been condemned and the city had razed it at his expense.
The company monitoring his tax lien investments never notified him that the home had been demolished.
Others have learned they hold the tax liens to burned out or dilapidated structures that are highly unlikely to be redeemed. That leaves the investor ultimately responsible to foreclose and take possession, or take a loss.
An investor recently spoke of a property he held the tax lien to in Illinois. It was in such disrepair that he couldn’t even give it away.
“No one wanted it. I offered to gift it to the municipality, and they declined. Real estate agents declined to list it because it was in a dangerous part of town,” he said. The company who he invested with never advised him of the condition of the property. Why the company bid on it is unknown. The investor said he’s not been able to reach anyone to get an answer.
When selecting a firm to invest with, it’s important to use due diligence and check the reputation of the company thoroughly. Because of the risks involved with tax lien investing, it’s critical to ensure investments are protected as much as possible.
Websites such as Ripoff Report and Bigger Pockets can be a start when selecting a company. They often have stories of peoples experience with various companies.
Ask for the locations that the companies intend to bid, and call those counties. Because firms often bid and buy in large quantities, employees are generally familiar with them. They can offer beneficial feedback.
Don’t buy blindly
When using a company to make tax lien purchases, it’s important to know the municipalities where the auctions are held. Ask the company representative to provide you with a link to the properties available on the municipalities website.
Some municipalities will show a picture of the property and others only provide the parcel number or address. In that case, the property can be searched and a photo located by using Google or Zillow.
Some counties offer a catalog of the properties that will be available at auction and some will change a small fee to download the catalog. For example, Hardin County, Illinois charges a $5 fee for downloading their PDF catalog. St. Clair County, Illinois charges $15. Many counties don’t offer a catalog until 30 days prior to the auction date.
Bank rate reported on the risks involved and quoted Richard Zimmerman, a partner at Berdon LLP accounting firm in New York City, who said, “You should really understand what you’re buying. Be aware of what the property is, the neighborhood and values, so you don’t buy a lien that you won’t be able to collect. You want to avoid properties with environmental damage, such as one where a gas station dumped hazardous material.”
It was reported that the AARP Bulletin and the Washington Post included the stories of a number of individuals and couples — most of them elderly — who were caught up in a property-tax lien web and lost their homes due to non-payment of relatively small property tax amounts. A 76-year-old man with dementia lost his $197,000 home due to an unpaid $134 property tax bill, before interest, fees and penalties were assessed. Even worse, a 95-year-old woman with Alzheimer’s lost her $300,000 home over an unpaid tax bill that was only $45 before interest, fees and penalties increased it exponentially.”
Some investors don’t want to put people, particularly the elderly, out on the street or remove them from a home they have lived in all of their adult life.
For those who eventually foreclose, the costs can add up and eat up any return on investment. Foreclosure processes and fees vary from state to state and if an eviction is necessary, that can be an additional cost.
In some states, there are homestead laws that make eviction impossible in some circumstances so it’s best to check all state and local laws before making any kind of tax lien investment.
Watch for online scams
There have been reports of tax liens being offered for sale on auction sites such as eBay. The wording can be so misleading that some believe they are purchasing a foreclosed home and not simply a tax lien.
It’s well worth the time to know what you’re buying, and if working with a company make sure all costs are explained. With tax lien investment companies there can be legal and administrative fees. Checking with the county or counties where the liens are being auctioned and obtaining the catalog is the best way to ensure the property is something worthy of owning should the lien not be redeemed.