You're about to discover tax lien investing pros and cons from the real world of real estate investing. This isn't a regurgitation of what you could find elsewhere on the web. These lessons come from the school of hard knocks in being in the tax lien investing game. Therefore, you may be surprised by what you learn as it may not line up with traditional wisdom on the subject.
What's a Tax Lien?
In simple terms, it is when a person does not pay their property taxes. What happens is the county, as opposed to say hiring a collections firm and bugging the heck out of that homeowner, instead what they do is they literally ask investors to pay the person's bill. What the investor gets in return is a tax lien certificate from the city or from the county that states that they're not only going to get their original investment back . The typical cost of somebody's property taxes for a year, and you can probably figure it out for your own area, it's a thousand, three thousand, five thousand, eight thousand, depending on the area. . You paid their bill, so you not only are going to get that money back, but you're also going to get an interest rate or a rate of return.
The first key lesson that you need to be aware of when it comes to tax lien investing is that it's very area specific. The rules are completely different from county to county to state to state. Very, very different. Each state has certain rules, but then on a more county specific level, there's even greater details of rules. What that means is, every area is different. Some are going to be better than others, and what I mean by better is the ability to get more of a rate of return. That's where the better comes in. Then, in some cases, it can be easier than in others to actually become the owner of the property if the person doesn't pay back their taxes. That's where we're going to move this conversation because this gets real interesting in the real world.
By the way, what I'm going to share with you is not regurgitated from a book or another training. This is what we have discovered over a lifetime of experience. I'll give you one more disclaimer. I, personally, do not buy tax liens. I'm not saying that necessarily jades me one way or the other because I have friends that own over $500,000 in tax liens each year. They buy them and then the other ones get paid off, and they just go buy more. I know the pros and cons. I'm going to talk about those. You'll also learn why I don't invest in them.
Tax Lien Pros
Tax liens or tax lien certificates, they're going to be in that two to five, eight thousand kind of range. Now, sometimes it's a big commercial property and it might be like $100,000 or $150,000, but in most cases it's not. Let's talk about how you get there. Well, you get there if somebody doesn't pay their property taxes. Who's most likely not to pay their property taxes? Number one are the people that don't have a loan against the property. That's a pro, okay? On the pro side is you're going to get some properties that potentially have equity. I'm going to come back to this, too. There's two reasons why this is helpful.
No Loan Against the Property
A lot of the time these properties don't have a loan on them. Why? Because a lot of the people that get a loan or a home loan to buy a property typically the mortgage company is paying the taxes each year, and the insurance. Even if the homeowner doesn't pay their mortgage, the bank still pays the property taxes and the insurance. Typically, when there's a loan against a property, typically the taxes are being paid and you won't see these property tax lien issues. If the property is owned free and clear, you definitely can run into that. Now, what kind of properties are owned free and clear? Obviously you have those that have been owned a long time by one owner and they've paid off the loan. You see where sometimes the property gets inherited by an heir. Those are the most likely ones not to pay the taxes because they just inherited this wonderful property, but they may not have the extra $6000 a year to pay the taxes.
What about the properties that they don't want? One of the cons is you've got to be very careful about, I would call them misfits. These are properties that the owner just doesn't want. Maybe it's some weird sliver of land that's completely landlocked, and it's just a whole bunch of undeveloped trees or something. It would not only be difficult to sell the trees to a logging company, but you couldn't even get in there because it's landlocked. This happens a lot, so many of these properties are weird misfits. They're slivers of land, raw land, vacant land. Things that the owners themselves don't want. They look at it and say, "Well, who cares? I'm not going to pay two grand a year for this property. Let the city take it back. I'm not paying nothing." Some of these properties just stay in this perpetual cycle of nobody wanting it, and sometimes the city actually takes them over. Nobody actually ends up paying the taxes, nobody buys it at the tax deed sale, and voila, the city becomes the owner.
You get these misfits, and what happens is there's usually a period of like two to three years. If you don't pay your taxes the first year, a tax lien gets issued. Then the next year if you don't pay, a new tax lien certificate gets issued. Now that's gets important, because if you buy the first one on year one for let's say $3000, but you don't have money next year to invest in that one, well then you get put on the back of the line in case the owner never redeems or pays back the back taxes. It can put you in an inferior line or role to potentially become the owner of the property, which is a small segment of this overall investing strategy. If you do pay for the tax lien certificates, you have the option of potentially becoming the owner.
You Could Possibly Become the Owner
That's going to depend on the state, because I know in my area here in Florida, what happens is if the person doesn't pay their taxes for, say, three years, what's going to happen is, it's going to go to a tax deed foreclosure auction. The only way I'd get it back as being the tax lien owner is if nobody bids at the auction. Which is kind of scary, because what that means is nobody wanted it. Now all of sudden I'm stuck with a property that I don't want that I got to now pay taxes on that nobody wanted to buy at the auction. This goes back to this con. You could get, potentially, you could get stuck with one of these. That means that if you're interested in tax liens, your obviously going to have to evaluate each property individually to see which one you want to potentially buy the tax lien certificate for.
Now in my area, they issue the list once a year. There are twenty-one thousand tax lien certificates that they sell in a year, and they do it once a year. That means you have to cull through all twenty thousand. Maybe you have a budget of, say, twenty grand in a year that you want to invest in these kinds of things, so I guess you would just go down the list until you hit about the first twenty. Remember you may lose on that auction, so you got to have some backups. I don't know if this is a pro or a con, but part of this is that you're going to have to evaluate before you make the decision to put the money into a tax lien certificate because you need to know what it is that you're putting this money against. If you're putting that money against some weird sliver of property, you may end up with it and you don't want that. If nobody else is going to buy it at the auction, you don't want it.
Now in other cases, in other states, you may want the property. Now this is where things get really interesting. Another potential con of this is going to be competition. Obviously, if it's such a good idea, everybody's going to do it. This requires some real money. You got to have some money if you're going to buy tax liens. The competition is typically banks, like local banks, hedge funds. Here's what they do. They cherry pick, usually, for the single family homes, or the single family homes where properties have a big mortgage on there. Because if the tax lien doesn't get paid after, say, two or three years, depends on the area, potentially that mortgage could get wiped out. These mortgage companies will come in and make sure and pay the tax lien right before the tax deed sale. Banks, hedge funds, they love this because maybe they get two, four, six, eight percent on their money.
Maybe you've heard there's places in this country that will give up to twenty percent guaranteed rates of return, or twenty-five percent. Well, that's where the bidding usually starts, and then it usually bids down. You're bidding against other people on the interest rate, so the interest rate may land on six percent or eight percent or maybe ten. Again, it depends on the area. Again, this is where we get a little technical because each area is just so much different than the next that you have to know the rules. We'll talk about how you figure out the rules here at the end.
You're going to have competition, and that can be a challenge as well because you're going to be dealing with people that have been doing this a very long time that know a lot more about this than you do. That's a big con about this whole thing, is making sure you can weave and bob in and out of the competitors. Remember, these competitors probably have a lot more money than you, especially these banks and hedge funds. They may have unlimited funds to buy these things. It also depends on the property and what's going to happen with it. Again, like I said, a weird sliver of land, that's a little bit more of a red flag. A single family home with a big, fat first mortgage on there, you know it's probably going to get redeemed. If not by the homeowner, at least the bank is going to pay back that money before it goes to foreclosure and they lose their first mortgage.
Finding the Right Deals
If that's your goal, great. But then your goal might be to try and pick off a couple of these properties. Then you're going to want to take the approach of finding the deals that are least likely to get redeemed. How do you do that? Now, I'm going to give you some really good tips here. The first is, go to these tax auctions for a while. If you have any interest in investing in a tax liens, study them. Study who's there. I know in my area typically there's three companies that buy like all of them. They do it all across Florida. There's three big companies and they buy them all. That's their business, though.
Figure out who the competition is, what they're doing, and study it. Study what happens to these properties. You can do all this, and it's going to take time. You noticed I'm not telling you to go buy some course on tax lien investing. I'm telling you that you'll study your local knowledge because that's where the wisdom is. I also think it's a good idea for you to go talk to an attorney that handles tax foreclosures. In other words, if you are the tax lien owner and you need to get your money back, and they didn't pay you, often times you can file for a quiet title or for a tax foreclosure. Find out who's handling those and learn from them. There's going to be some local providers that handle this for the people that are there right now.
Tax Lien Cons
Getting Clear Title
In fact, if you went to an auction, you asked around, "What attorney do you use? What title company do you use?" Because one con can be getting clear title. Getting clear title can be a challenge in certain states, in certain areas. In Tennessee it was a very big problem. In Florida, there's actually some closing companies that just focus on clear title for tax foreclosure. You'll have to definitely get a better understanding, and that's where these local service providers can give you some great wisdom on this subject. Again, you can really dig in and learn what's going on. Again, like I said before, it's much better if you know the property you're dealing with. I don't know if this is a con or not, because every investment you've got to verify if it's a good idea. I guess the part of the con is just that you have to go through so many to find a few that are going to be winners, that are going to be a good use of time.
You're definitely going to have to have money. This is not a game for no money, no cash down, creative financing stuff. You got to have the money. I, personally, don't put my own money into it because I can use that money and make a lot more deals out of it. In other words, if I was going to take $10,000 and throw it at a tax lien, I could take that same $10,000, give it to a homeowner, somebody who has to absolutely get out of their house today, and then I could turn around property and flip that property for a lot more than I put in, so I can get a much better rate of return.
However, I know people that have been ex-venture capitalists, ex-investment bankers, and they're sitting on several million dollars, and so they don't want the hands on that's required that I do when I do my regular investing. They just go buy a bunch of tax liens, and maybe they get six to eight percent on their money. They focus on single families that they know they're going to get redeemed. They don't have to worry about getting the property back. That's the way they roll.
Pro: It's Hands Off
It's not hands off in the beginning when you have to actually choose which one you're buying. It becomes hands off once you buy it. You set it. You forget it. You move on. That's definitely a benefit. I suppose when you talk about the pro of a guaranteed interest rate, that's nice. I am also going to argue it's a lot like a bank CD. A bank CD meaning you buy it, and then you're going to have to wait a couple of years before you can get back to it. My brother is a financial planner and he would call it liquidity. Not very liquid. Once you buy it, you're going to have to sit on it. You could even sit on that thing for three years before you end up getting your money back. But it's a good rate of return, so it's not all bad.
Tax Deed Auctions
That can be a good little niche. Where they get really nice is this: When you get a situation where somebody passed away and the probate hadn't been handled all the way or they haven't fully transferred the assets over to the heirs or there's some sort of disagreement, and meanwhile it's barreling towards a tax foreclosure, maybe it goes to tax foreclosure. Sure you have to compete against the other guys who are bidding at the tax deed sale, but sometimes you can get a pretty good deal there.
That can be a great little option. That's where I'd rather be in the game is more on that side. I'm okay with the hands on. I don't need hands off, because I'm already in the flow of deals everyday. I want to be in the flow so that ... I don't want to get six or eight percent return on my money. I want to do a lot better than that in a year, that's for sure. Again, certain parts of the country may do a little bit better.
Hopefully I shared with you some insights that you wouldn't hear in other places, because this comes from the school of hard knocks. We've just been through this so many times, we know where the benefits are. I'll say this, and I've talked about it earlier in this video. It's all about local, local, local. If you study this thing long enough in your local area, you talk to enough professionals who are doing it, you'll eventually begin to see where the opportunities are. That's the key. It's about knowing what's going on locally, asking a lot of professionals in that area and finally digging into what's going on. Now maybe the guys at the auction that are bidding may not want to help you, but if you knock loud enough and long enough, you'll eventually wake somebody up.