Tax lien redemption periods
Most tax lien states offer redemption periods, which is a specified period of time in which anyone with a rightful interest in or claim to the property can pay the outstanding tax amount with additional fees and interest after the certificate has been sold. Redemption periods will vary by state or county and depend on whether the property is occupied or vacant. Vacant properties often have far shorter redemption periods, if any at all. Arizona, for example, offers a three-year redemption period, meaning certificate buyers have to wait three years before they can initiate the foreclosure process, which then can take an additional few months and several thousand dollars to complete. New Jersey tax lien buyers have to wait two years before they can proceed with a tax lien foreclosure if the property is occupied, but if the property is vacant there is no required redemption period before initiating the foreclosure process.
What a tax lien sale is like
Most states and municipalities will hold tax lien sales online, but some still hold live auctions at the county courthouse. Almost all require bidders to preregister before the auction date and may require an upfront fee to register. Investors can see what properties are set for sale on the county's auction calendar, which could be found online or by visiting the tax collector's office. This allows investors to conduct their own due diligence on the properties set for sale which includes things like:
- Confirming property value
- Searching for other liens that may predate the tax lien (such senior tax liens or code violations)
- Confirming condition of the asset
Sales typically last about 10 to 15 minutes per property starting at the amount of unpaid taxes. If the property has equity, it's likely the auction will push the bid up closer to the property value. The winning bidder is the person who paid the most for the property during the auction and is expected to place a deposit with the county (usually 10%) upon completion of the sale. The remaining balance is due within a few days or up to a few weeks. Most tax collectors accept cashiers check or wire transfer only, and the short funding timeline means investors who want to buy a tax lien should have cash to complete the sale.
Benefits and risks of buying a property at a tax lien foreclosure
The biggest benefit of buying tax liens or pursuing a tax lien foreclosure is being able to gain access to discounted real estate. Most tax lien buyers are bidding on a tax lien with the intention or hope of gaining title to the property, but also knowing the balance could be paid off beforehand. With that in mind, they set a maximum bid amount, which is essentially the minimum return they are willing to accept if the taxes are paid with fees and interest before the redemption period expires. This means the bid is often based on the unpaid tax amount as it relates to the property value, which is deeply discounted when compared to the actual property value.
While deep discounts can provide a huge payoff, there are several risks and drawbacks to this method of investing, the first of which is the waiting period. Investors have to wait several years before they can pursue tax lien foreclosure in order to gain title to the property. If the property is occupied, there is little you can do to ensure the property is being maintained or preserved as you may hope or prefer. Even if the property was in good condition at the time of the tax lien sale, it could be in very different condition by the time the foreclosure is completed. A lot can happen in a few years. If the property is vacant, you can preserve the property to the best of your ability but are also responsible for maintaining the property during the waiting period, which can be expensive.
Using a tax lien foreclosure to gain title to a property means you're also buying the property without fully knowing the interior condition. Since you don't have legal interest in the property before the sale takes place, you do not have the right to access the property, meaning you're bidding on the tax lien without fully knowing the condition of the property. For this reason it's always a good idea to assume the worst and be prepared to make improvements or renovations to the property after gaining title.
If prior tax liens have been sold, they are in a priority position over later tax lien sales, which are often referred to as junior liens. Both can be profitable, but the junior liens often sell for less because they are in an inferior position. If the first tax lien holder pursues foreclosure, it could impede your ability to collect or gain title to the property as hoped.
Tax liens and tax lien foreclosures can be complicated investments, but the payoff can be worth it. To give you an idea of the potential payoffs, below is an example of a recent tax lien transaction that was completed by a friend of mine in New Jersey. The entire investment took him 15 months from tax lien sale to the sale of the property.
He purchased a senior tax lien on a vacant single-family home for $2,200 at the tax lien auction. Foreclosure took roughly eight months and cost about $5,000 in legal fees. He borrowed $105,000 for renovation costs and holding costs at 8% interest. After five months of renovations, it was listed for $215,000. He received seven offers in the first three days with a final sales price of $250,000 and closed seven weeks later. After closing costs, interest to his lender, and Realtor fees, he netted roughly $112,00 when it was all said and done. Not every deal is a home run like this, but big returns are not uncommon.
Tips for buying tax liens
It's suggested investors establish a maximum bid for the properties before the sale starts, which should be the minimum return you are willing to accept if the taxes are paid off in full. There is always the chance the certificate holder ends up with the property, but it's far more likely the taxes will be paid in full beforehand, meaning you should have the funds available and ready for if and when the time comes to foreclose, but also be happy with the return if not.
While cash is required, investors can utilize alternative funding sources like hard money if needed. The required redemption periods can provide you additional time to line up financing beyond the initial purchase, making it a fairly low upfront investment that you may or may not need additional funds for.
If you are interested in buying tax liens and pursuing tax lien foreclosure, familiarize yourself with the tax sale process in your area, the legal process for foreclosing on a tax lien, and the cost involved. It's a good idea to register to bid and watch a few sales to see what the average return is for your market as well.