Tax Lien Investing: Everything You Wanted To Know About Tax Lien Purchases
By: Darius M. Barazandeh, Attorney at Law/M.B.A.
Tax Lien Investing, tax lien riches, tax liens for wealth, tax lien this, tax lien that...everywhere you turn there seems to be someone selling information on tax liens. What most of these 'overnight' experts don't tell you is what could go wrong with your investment if you fail to perform proper research. I have helped thousands of investors make significant profits from tax sales. I have seen the processes first hand in a number of different scenarios: 1) as an investor, 2) as an attorney, 3) as a business consultant to one of the largest tax collection entities in the United States, and 4) as a teacher and creator of the most advanced tax sale investment systems available today. If you have questions then you are not alone. Tax sale investing is an area that continues to fascinate investors. I like to tell people, 'when you want to move past the fascination phase...please look me up!'I. Introduction
Tax lien generalities can be found a 'dime a dozen' in marketing-based products. Sadly, many of these products will keep you wholly fascinated and perplexed with this investment technique...especially since most will avoid the hard questions. What are those negative aspects? What are those risks that don't make it to the sales letter? If you want to learn the truth about investing then hold off on the purchasing the $29.99 eBook from the tax lien marketing guys...and spend a few minutes reading this article
Tax Lien and Tax Deed Investing: Everything You Wanted to Know About Tax Lien Purchases
Earning 16% to 24% interest through a low risk and low maintenance investment is rare to say the least. While some investments in real estate or industry can match such high rates of return, very few can equal the safe and passive cash flow potential of property tax liens. Furthermore, tax lien instruments are generally insulated from changes to Federal Reserve interest rates. A further advantage is that the property tax lien is secured to real property as a first priority claim. The end result is a highly secured investment instrument that can provide the investor with either: 1) a favorable return on the money invested or 2) deeded rights to property. More impressive may be the fact that tax liens can be purchased for nominal amounts of money (e.g., under $200) or at larger sums (e.g. $30,000 or more). The end result is a flexible but highly secured investment with minimal downside and market risk. This paper will discuss the tax lien process and the real risks and benefits facing the investor.
II. Tax Liens vs. Tax Deeds: A Differing Approach
Tax liens or tax deeds are sold in 35 states. Almost every state and territory, in the United States, has a process that is used to collect delinquent property taxes and place reliable taxpayers back on the tax role. This process occurs at the last juncture of the tax collection process and it allows ordinary individuals to purchase the rights of local governments in tax delinquent property. The process can be separated between two general types of systems: ‘tax lien systems’ and ‘tax deed systems’. The tax lien and tax deed processes may be distinguished by the ‘bundle of rights’ sold to the purchaser. In states using a tax deed system, if the taxes are not paid, county governments will sell full ownership and possession rights to the investor. Currently 17 states authorize the sale of ownership rights to tax delinquent property through a tax deed sale or assignment deed. Conversely, in so-called ‘tax lien’ states county governments sell only their right to the tax lien or tax claim on the real property. A total of 18 states have authorized sales of the counties’ tax lien position to the public.
Tax Deed Processes
In a tax deed state the county will sell all of its rights to the property at a public foreclosure auction or through a later assignment process. The sale will generally occur 3 to 5 years after the first tax payment becomes delinquent. Property is sold for the back tax amount plus any fees, interest charges, and court costs. Since property taxes are a small percentage of market value, investors can acquire full property rights at a fraction of the market price. The purchaser will generally obtain full ownership rights or at least all rights held by the county. In these states, the purchaser generally has the customary rights of a landowner, namely to possess and/or occupy the property.
Tax Lien Processes
In a tax lien state, counties do not sell property; rather they sell their lien for unpaid property taxes. This lien is an encumbrance or enforcement right held by the county. While the lien does not grant full ownership rights to the property, it does provide the investor with two commanding rights: 1) The right to receive interest penalty charges if the lien is paid off by the delinquent property owner, and 2) The right to foreclose the tax lien and take title to the property if the lien is not paid. Even better the property tax lien is a high priority lien superior to judgment liens, mortgage liens, trust deeds, and other private liens.
Because of the powerful nature of these rights, tax liens are a very attractive investment opportunity. Moreover, since the property tax lien is usually for a small fraction of the properties’ market value the investment is highly secured. In addition, the lien purchase does not subject the investor to land owner liability since no right to possess or occupy the property is granted by the sale of the lien.
III. The Tax Lien Process: A Tax Collection Effort
The 16% to 24% interest rates available to investors who purchase tax lien certificates is a function of state law. In other words, state law authorizes the substantial return awarded to the investor.
Taxes based on property ownership can be traced back to antiquity; however our modern system draws its roots from fourteenth century England. Property ownership was first used as a measure of one’s ability to pay the tariffs or taxes levied by the English Crown. The tax later became assessed on the property itself.  Property taxes were utilized in colonial America in the early to mid 1600’s in order to fund local services such as protection from Native Americans, European intruders, the building of roads, schools, prisons and public relief. 
Late Taxes and Collection
Taxes tied to property are still used to fund many of these same essential public services. The fundamental importance of these services is the rationale for the high priority position of the property tax lien. Almost uniformly, state legislatures have given property tax liens seniority over judgment liens, mortgage liens, trust deeds, and other private liens. This ensures that money for public services is paid first no matter how many other claims or charges are levied on a property.
In most states, property taxes are due several months after the close of the calendar year. Some states divide payments into two or three installments each becoming due at different times of the year. While the process for collecting current taxes will vary among tax lien states, late tax collection is generally enforced in a uniform manner. If the property owner is late paying their property taxes then the tax lien will remain attached to the property until the taxes and penalties are paid or the lien is foreclosed.
Tax liens held by the county against real property do not by themselves provide the county with actual revenue (i.e., money) for its operations. Until the delinquent tax dollars are collected the lien is simply uncollected debt. Recall that since local governments utilize property taxes to pay for needed public services, collecting this tax debt is vitally important for smooth running operations and budgeting.
During this time the county will notify the delinquent taxpayer that their taxes are overdue. The county treasurer or tax collector may also offer an extended payment plan at several points in this process. Attempts to collect late taxes will generally last between 1 to 1.5 years. Generally, after one year of delinquency the county treasurer or tax collector will begin to assemble tax sale listings for the upcoming year.
Tax Lien Sale: County Preparation Processes
The list of liens will include properties that have been certified as delinquent for one year or more. Property owners, participating in a delinquency payment plan, will not find a tax lien to their property on the sale list. County officials are required to notify the delinquent taxpayer of the upcoming lien auction. These notice requirements generally demand that notice of the upcoming sale be sent to the delinquent property owner and be published in a designated newspaper for two to three consecutive weeks before the sale. In almost all counties sale listings are available 3 to 4 weeks before the upcoming sale. Most counties have sale information online or can readily fax sale lists to investors.
Tax Lien Sale Auction Format
Although variation exists among tax lien states, there are some general similarities. First, all primary sales must be held in a public auction format and ordinary citizens may take part in the sale. Second, the starting price for the tax lien is made up of: 1) delinquent property taxes, 2) penalties, 3) assessments, and 4) other charges or fees.
While some variation exists among the bidding systems in tax lien states, most can be categorized as follows:
1) Bid Up Process: Some states use a process in which the price of the lien is bid up (i.e., increased) based on competition for the lien. In this auction format the price paid for the lien may be bid higher, but the interest rate earned by the tax lien is fixed and will not fluctuate due to bidding. Examples of states using this system are: Alabama , Georgia , Indiana , Montana , Kentucky and others.
2) Interest Bid Down: The second most common scenario is the interest bid down system. During this auction format the interest rate earned on the tax lien certificate is bid down. The winning bidder is the person who accepts the lowest interest rate payable on the lien. The price paid for the lien is fixed and will not rise due to bidding. Examples of states using this system are: Arizona, Florida, Maryland, New Jersey, Missouri and others.
A few other unique bid systems exist in a small number of states. No matter what type of bidding method used there are numerous opportunities for the investor.
IV. The Tax Lien Investment: Redemption and Foreclosure
The tax lien investor earns profit in two scenarios: 1) if the delinquent taxpayer or another lien holder pays off the late taxes the investor will receive the principal paid for the lien plus any interest which has accrued, or 2) if the late taxes are not paid by a certain date after the sale, the tax lien investor can foreclose and take title to the property.
Tax Lien Redemption and Interest Yield
In order for the delinquent taxpayer to save their rights to the property they must pay the investor the amount of the back taxes plus the interest rate stated on the tax lien certificate. This process is called redemption. The delinquent taxpayer has a limited amount of time to pay off the tax lien certificate and its interest costs. This time frame depends on state law and can range from 1 year to 3 years. This timeframe is called the redemption period. Interest rates vary according to state law but generally range from 12% to 24% per year. Interest accrues based on the number of months the investor holds the certificate.
Tax Lien Foreclosure and Large Profits
Perhaps the most powerful right of the tax lien holder is the right to begin foreclosure proceedings. Foreclosure proceedings should begin if the cost of the tax lien plus interest is not paid off within the redemption period. Proper foreclosure grants the tax lien investor full ownership rights in the parcel and will eliminate the ownership rights of all other parties. If the delinquent taxpayer redeems the certificate during the start of the foreclosure proceedings, most state rules allow the investor to tack or add the foreclosure costs to the redemption price.
Interestingly, since tax liens generally amount to less then 10% of a properties’ market value, foreclosure creates a tremendous profit windfall for the tax lien investor. For example: with proper research, an investor foreclosing on $5,000 worth of tax liens can acquire a property valued $55,000 or more. Thus, a loan-to-value ratio of 10% is possible and seemingly unequaled ($5,000 + foreclosure costs / $55,000 = 10%). Many traditional and creative forms of real estate investing can only create loan-to-value ratios of 70% or more.
An Attorney's Secrets to Investing in Tax Lien Certificates
Texas Tax Sale Guide, Texas Tax Foreclosure Auctions,
Texas Tax Deed Sales: Texas Houses for Pennies