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If you’re looking to learn the tax lien investing pros and cons, then you’ve come to the right place.
Most people don’t know a whole lot about investing in tax lien certificates and you might be wondering what’s so good about them.
Keep reading to learn more.
Table of Contents
What are Tax Liens?
In the US, every state and county imposes and collects property taxes on real property. Canada also does the same.
Every property has taxes that must be paid every year. These properties include:
- Vacant lots
- Residential homes
- Apartments
- Commercial properties
- Shopping centers
- Skyscrapers
In most cases, the county will assess taxes that must be paid on each property and that county will send the owner of the property a bill for the previous year.
If the owner doesn’t pay by a certain point in time, then a lien will be placed on the property for the amount due of that tax bill.
There’s also interest and additional charges that the owner can incur if these taxes aren’t paid in a timely manner.
The problem that this presents to the county is if people don’t pay their taxes on time, these counties can’t make payroll and provide the regular and all important duties, such as the police department or fire fighters to name a few.
What Is Tax Lien Investing?
When the county places a lien on the property, the county then sells the lien to an investor at a tax lien sale.
When an investor buys the lien, they will have what’s called a first position lien. It is also possible that the investor can be second, if there is a prior tax lien.
This lien that the investor purchased will then accrue interest over time and/or penalty from the time when the investor purchased it.
If the property owner does end up paying this tax bill, the county will collect the payment for the deliquent tax amount, including interest and any penalties that they might have incurred.
The county will then pay you, the investor the initial principal paid for the tax bill plus the interest or penalty essentially creating a win-win.
You as the investor, you win because you earn a secure return on your initial investment.
The property owner wins because they get a little more time to pay their bill.
The county wins because they get the money that they need to make payroll and pay those firefighters and policemen etc.
Redemption Period
The redemption period is the time a property owner who is behind on their taxes has to make that payment.
This is time period that a property owner would have to make payments on delinquent taxes and is anywhere from 6 months to four years depending on the state.
So technically, a property owner can come in right before the exemption period expires and pay off the entire bill.
NOTE: In most states, they give property owners a 1-2 year redemption period to make payments. After this point the redemption period expires.
The investor would simply sit back and wait to see what happens. During this time, they’re earning interest of anywhere from .25% to 18% (interest rates are never guaranteed) depending on the lien jurisdiction. Some states offer higher yields than others.
Foreclosure
If the property owner does not pay off their tax bill before the end of the redemption period, the lien holder will move to foreclose on that lien.
This lien is in first position ahead of the bank’s mortgage on the property. In some cases the investor can get the property free and clear.
Tax Lien or Tax Deed States
Before I get into the pros and cons of this investment type, I first want to say that tax lien investing varies from state-to-state. For example, some states are deed states, while others are lien states.
In a deed state, the county auctions off the property itself to pay the taxes. They aren’t selling a lien on the property as they would with tax liens when property owners default on paying their taxes.
There’s also a hybrid system, which operates more like a deed state and is also similar to a lien state.
Without getting into the weeds here, it’s important to know what this means when it comes to your state. Below, I list out each state to give you an idea of which type your state is characterized as.
| List of Lien, Deed, and Hybrid States | ||
| Lien States | Deed States | Hybrid States |
| Alabama | Alaska | Connecticut |
| Arizona | Arkansas | Delaware |
| Colorado | California | Georgia |
| District of Columbia | Idaho | Hawaii |
| Florida | Kansas | Louisiana |
| Illinois | Maine | Massachusetts |
| Indiana | Michigan | Pennsylvania |
| Iowa | Minnesota | Rhode Island |
| Kentucky | Nevada | Tennessee |
| Maryland | New Hampshire | Texas |
| Mississippi | New Mexico | |
| Missouri | New York | |
| Montana | North Carolina | |
| Nebraska | Ohio | |
| New Jersey | Oregon | |
| North Dakota | Pennsylvania | |
| Ohio | Utah | |
| Oklahoma | Virginia | |
| South Carolina | Washington | |
| South Dakota | Wisconsin | |
| Vermont | ||
| West Virginia | ||
| Wyoming |
Tax Lien Investing Pros and Cons
Pros
- Investor in tax liens can usually see a higher rate of return than stocks at 10%-25% or more. And you have more control over your investment with tax liens than other investments, such as: where to invest, size of the lien, property type, and interest rate.
- Tax liens are first position ahead and have higher priority than a bank’s mortgage, making your investment secure. An investor could ultimately own a property free and clear through foreclosure.
- It isn’t as expensive as other real estate investing strategies and there isn’t as steep of a learning curve. The process can also be done online in many counties.
- This type of investment is very stable and not subject to the same kind of volatility that you would have in other investments. Once you lock in a lien at a certain interest rate, that’s what it is.
- These are handed out by the government and safer than other investments that are subjected to fraud and shady practices.
- Tax liens are enforced by law. Meaning if a property doesn’t pay their taxes the procedures set forth are enforceable in a court of law making them favorable versus other investment vehicles.
- Compared to other investment types, there is a different element of competition with regard to the bidding/auction process of tax liens. This is a good thing and keeps it more secretive as investors don’t get the word out about it in order to not create more competition for themselves.
Cons
- You don’t have control over the time the taxes are paid. Investors might have to wait a long period of time until the redemption period has expired to get paid.
- There is risk involved when buying tax liens as some counties might sell liens for worthless properties. You do have to know your stuff and make sure to do your due diligence with the county you purchase them from.
- There are no brokers as with the stock market for those who are mystified about the tax lien investing process. You’re pretty much on your own and most people don’t know a whole lot about it.
Conclusion
I just shared 10 tax lien investing pros and cons. These are some of the biggest benefits or drawbacks of investing in tax liens.
In my opinion, tax lien investing is a fantastic investment vehicle. As I mentioned, there is a mystique about it and most investors are quietly seeing great returns, while flying under the radar.
Do your own due diligence before getting started with this often over-looked alternative investment strategy.
Tax Lien Investing FAQ
Is investing in tax liens a good idea?
Investors can see a higher rate of return than stocks with tax liens at 10%-25% or more. And you have more control than other investments, in areas such as: where to invest, size of the lien, property type, and interest rate making tax liens an attractive investment vehicle.
What is the benefit of buying a tax lien?
Some of the biggest benefits of buying a tax lien include: a high rate of return (10-25%), low cost, you have control over many areas of the investment, it’s a secure investment (collateral is real estate), low time commitment, less volatile than other investments, not as risky, tax liens are enforceable by law in every state.
How does buying a tax lien work?
When the county places a lien on the property, the county then sells the lien to an investor at a tax lien sale. When an investor buys the lien, they will have what’s called a first position lien. The lien will then accrue interest over time and/or penalty from the time when the investor bought it. If the property owner doesn’t pay they will face foreclosure.
How do you buy a tax lien property?
Property tax liens can be purchased at auction, either online or in-person. Auctions will be posted on the county’s website with dates, times and locations. On the day of the auction, you’ll need to pay in cash, a cashier’s check, or a money order will be accepted.
