There are two types of tax sale properties that offer opportunities for investment: tax lien sale properties and tax deed sale properties, which are both properties with unpaid property taxes.
Tax lien sales auction liens off to the highest bidder, who acquires the right to collect the liens, as well as interest, from the homeowner. If the homeowner is unable to pay the liens, the new lien owner can proceed with a foreclosure.
Tax deed sales auction properties in their entirety, liens and all.
How Tax Lien Sales Work
Tax lien sales are used by states to force homeowners to pay unpaid taxes by allowing them to pay back taxes as well as the associated penalty fees. In the United States, 29 states, as well as Washington, DC, the Virgin Islands, and Puerto Rico permit tax lien sales. Though each state sells tax liens differently, the process usually entails the following:
- A homeowner fails to pay their taxes.
- A waiting period begins. Each state stipulates a time frame before tax collectors can intercede, ranging from several months to several years.
- The unpaid taxes are auctioned off at a tax lien sale.
- The highest bidder is awarded the lien against the property.
- The tax collector uses the profits from the tax lien sale to pay the back taxes.
- The homeowner must pay back the lien holder, plus interest, or face foreclosure.
“Purchasing a tax-lien 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, which allows the investor to realize significant returns,” says Seanna Wesson, a licensed realtor.
Profiting from a Tax Lien Sale
Homeowners whose liens have been sold at a tax lien sale are afforded a redemption period to pay back taxes plus interest to the new lien holder. If the homeowner is able to repay their back taxes, the lien holder will profit from the amount accrued in interest. Interest will rates vary from state to state. For example, Florida has a maximum interest rate of 18% while Iowa has only 2%, according to the National Tax Lien Association. The rate investors are given depends on the auction and is usually not the maximum rate.
Following the redemption period, if the taxes remain unpaid, the lien holder can foreclose on the property by filing a lawsuit to obtain the title to the property. This process can be complicated and expensive, therefore, investors must weigh whether the property truly has resale value.
According to Ilyce Glink, author of Buy, Close, Move In, “Some homeowners can’t, or won’t, pay their real estate tax bills. It’s in these cases that the tax buyers can end up as owners of these properties. The sequence of events is as follows: The property owner fails to pay his or her real estate taxes; the local taxing body “sells” the taxes to a tax buyer at a tax auction; a tax buyer pays the municipality the amount of unpaid real estate taxes; the tax buyer receives a document evidencing the tax payment; the property owner gets a fixed amount of time to pay what is owed and redeem the taxes or lose his or her property; the homeowner never shows up to pay the bill; and, finally, the tax buyer receives a tax deed transferring title of the property to the tax buyer.”
How Tax Deed Sales Work
Tax deed sales differ from tax lien sales in that they award full ownership of a property. In some states, the government will seize homes with unpaid property taxes auction the properties at a tax deed sale. The property will usually be sold for the amount due in back taxes, as well as fees and interest charges. Before the property is transferred to the winning bidder, it should be clear of all mortgages and liens against it.
“Purchasing property at a tax deed sale definitely has risk if you have not done extensive due diligence. You must do your homework, title searches, drive buy inspections, history reports etc. Once you buy a Tax Deed, you will own the property including all of it potential problems. The major thing to keep in mind is that at a tax deed sale, unlike a tax lien sale, you are buying the real estate and we believe that the required level of due diligence becomes extremely high. The other thing you want to know at a tax deed sale is if the property is being purchased free of all other liens and encumbrances,” says Tamera Aragon, a real estate investor.