Beginner’s Guide To Tax Lien Investing

Key Takeaways

  • Tax lien investing is the act of buying the delinquent tax lien on a property which is in the first lien position, or has first priority from any liquidation of the collateral which secures the loan.
  • One of the biggest benefits of tax lien investing is the much-lower capital requirement than other forms of investing to get started.
  • In order to buy tax lien properties, you must start by putting in a bid at auction.

As an investor, your main goal is often to look for new opportunities and evaluate risk vs. reward. While it’s been around for years, tax lien investing is increasing in popularity among investors of nearly every skill level.

But buying tax liens is not for everyone, as it requires up-front capital and will take at least 120 days to see a return on investment. Though there are risks associated, the returns can be tremendous depending on the property at hand.

Before you consider your own foray into tax lien investing, here’s a quick primer on this often profitable—though sometimes confusing—investment strategy.


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how to buy tax liens

What Is Tax Lien Investing?

Tax lien investing is the act of buying the delinquent tax lien on a property and earning profits as the property owner pays interest on the certificate or from the liquidation of the collateral securing the loan. This gives you the right to take the deed of the property if the owner does not pay off the entire delinquent tax amount, plus any fees within the redemption period, typically 120 days.

In most cases, the owner has had months, if not years to pay the taxes before the bidding process. An extra 120 days does not usually change anything.

Are Tax Liens A Good Investment?

Tax lien certificates can certainly be an excellent investment to add to your portfolio. The key, like any other investment, is to know as much as you can about the property, the neighborhood and the town in general. You never want to get stuck with a property that you don’t see any upside in.

Tax Lien Investing Pros And Cons

There’s no question investing in tax lien properties does contain some amount of uncertainty. But when compared to other forms of investing it can actually have a much-lower risk profile. (Though this can depend widely on certain factors.)

Quite simply, the rules and guidelines regarding tax liens vary depending on what state a property is in. There can be some variance regarding the redemption period, rates of return and the bidding process itself. It’s important to know the general rules before you make a bid in your state. To better prepare yourself, you must evaluate the pros and cons.

Tax Lien Investing Pros

  • Low capital requirement: Tax lien certificate investing offers a much lower capital requirement when compared to other forms of investing—it’s possible to jump into this asset class for as little as a couple hundred dollars.

  • Rate of return: The other big advantage investing in tax liens gives you is a (fairly) standard rate of return. Unlike flip investments, which can be volatile, with tax lien investing you have a solid understanding of what your return your will be—without having to second-guess the market.

  • Lump sum payment: You are paid a fixed sum when the tax lien investment resolves, which means that it’s easy to calculate exactly how much you’ll be receiving, and what your rate of return is. In addition, because the payment is not in the form of an ongoing residual, you get all of your returns at once.

Tax Lien Investing Cons

  • Lack of recurring income: For some investors, the fixed payment aspect of buying tax liens can be viewed as a drawback. When receiving a fixed payment, it may not align with some investor’s financial goals, especially if they are looking to create avenues of residual income over time.

  • Possibility of subsequent liens: Even though tax lien investment requires very little up-front capital, they can (on occasion) require more capital as the process moves forward. This is because, as the initial lien holder, you will be required to purchase any subsequent liens. (New tax liens take precedence over old liens; sad, but true.)

  • Competition: The other slight disadvantage is the amount of competition you will likely face, usually from money managers and fellow investors, in your pursuit of tax liens to purchase. The best remedy for this is to know your geographic market well, and target low-cost liens—in the $100-$200 range. (The big money managers and investment firms are looking for a higher yield than these smaller investments can provide.)

How To Buy Tax Liens

  1. Learn About Tax Liens And Real Estate Auctions: There are two ways to profit from tax lien investing: through interest payments or taking ownership of the property. The entire process should be handled with care, and under the guidance of a real estate attorney. Actually purchasing a tax lien is typically done at a real estate auction. Take time to really understand the real estate auction process before you attempt to bid on any tax liens.

  2. Decide On A Target Area: Tax liens are assigned by county, so it will be helpful to narrow down your target area before looking for investments. This website offers a list of counties in the U.S. by state. Note that areas with financial strain may be more willing to offer deals on tax lien properties. Check out public records to find the financial status of counties near you and find which areas represent the most promise.

  3. Scout Different Properties: Auctions do prevent buyers from seeing the inside of a property prior to sale. Since you will not have seen the property without the homeowner’s consent you may not be aware of the condition of the property. However, if you get in a bidding war and overpay you may take ownership with negative equity before you ever unlock the front door. That’s why it’s important to do your homework and scout out potential properties before you attend an auction.

  4. Make A List And Bid On A Home: After you identify a few properties that you are interested in, it’s time to attend a real estate auction. Establish your maximum bid before attending to help prevent yourself from accidentally overpaying. Then, attend the auction and place a bid on the property you want. Be sure to research the county’s payment requirements (whether cash or check) so you are prepared if your bid is accepted. If you are the winning bidder, you will then take ownership interest in the property and the lien.

  5. Notify The Homeowners: Follow the laws in your area after obtaining the tax lien. In some cases this may require notifying the homeowners by sending a certified letter to the property. The letter should inform them that you have purchased the lien and state how much they owe in back taxes on the property. Due to the overall lien process, the letter will likely not come as a surprise to the homeowners.

  6. Collect Your Money (Or Property): Once all parties understand the lien agreement, your only job as an investor is to collect interest as the homeowners make back payments. The time period can vary, but on average it is 120 days. If the homeowner does not come up with the money, the auction winner becomes the lien holder and ultimately the homeowner. Depending on any other liens on the property title, you may need a good amount of capital to pay everything off. Always be prepared for this possibility when tax lien investing.

buying tax liens

Pro Tips For Buying Tax Liens

Now that you understand the benefits of tax lien investing, and how to purchase tax liens, here is more information that you should know before getting started. Read through the following tips before trying your hand at tax lien investments:

  • Tax Liens Aren’t Always Properties: While ending up with a property is a very real outcome when tax lien investing, it does not always come to that. Sometimes homeowners will meet the established deadlines and pay off the liens on the property. Investors would then only profit from interest income. This can still be a lucrative opportunity, but it is important not go into tax lien investing with your sights entirely set on property ownership.

  • Tax Lien Investing Laws Vary: Tax liens are implemented by county, meaning the process of purchasing them will vary by county as well. Familiarize yourself with local laws while you search for potential investments. Depending on your area, the purchase process could be much easier than others or vice versa.

  • Diversification Is Key: A tax lien purchase takes time and capital, making it a challenging primary investment strategy for many entrepreneurs. There are a number of benefits to a real estate tax lien, but at the same time investors should remember the importance of diversification. It is a good idea to identify and pursue a few investment options in order to create a diverse portfolio. That way you can spread out risk and guarantee a few different sources of cash flow at the same time.

  • Keep ROI In Mind: Identify your financial goals before deciding to buy tax lien certificates to determine if the return on investment (ROI) is right for you. As I mentioned above, tax liens can be highly lucrative depending on what state you are located in. Most states will limit the amount of interest that can be charged on a tax lien certificate, though some states will have higher limits than others. The price of tax lien certificates can also vary by state, which could cut into an investor’s potential profits. Always research your area before getting started.

  • Consider Private Lending: If you have the capital available to purchase tax liens, consider other ways you could invest that money as well. While tax liens may  align with your investment goals, there may be other opportunities that result in higher returns. For example, a private lending  scenario could allow you to generate more interest income than a tax lien. If you want to learn more about becoming a private lender, be sure to read this guide.

Summary

Tax lien investing can be a good way to see a 12 to 18 percent return on your investment, but it is not without heavy competition and some degree of risk. Before you consider tax liens, find out what the guidelines are in your specific state and attend an auction to get a feel of the process. Tax liens can be a great investment, but they can also set your business back years if you are not careful. Like most things in life, the best tax lien investing guidelines revolve around doing your homework…and then when you see an opportunity, pull the trigger.

Have you experienced any success with tax lien investing? Feel free to share your expert tips below:

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