Difficulties of Tax Lien Investing Due Diligence

One of my readers recently emailed with a request for a due diligence checklist that I use when looking at investing in tax liens or tax certificates.  While I don’t have a checklist, per-se, I do run thru a mental checklist of items on each and every property.  The due diligence on the underlying real estate in tax lien investing is the same for any real estate investment—it focuses on value and market risk.  Furthermore, it varies tremendously on the type of real estate.  Does that former industrial warehouse have un-remediated storage tanks?  Is that retail office-condo fully completed or just a shell? However, the tax lien investor needs to add a few more items to their due diligence which I’ll cover in this post.

Is this a valid lien?

One of my first checks right before the auction is to go online to the tax collector’s website and review the tax bills for the certificates I’m about to purchase.  Has there been a recent or partial payment, is there a bankruptcy flag, is the property owned by a government entity?  Generally, these liens shouldn’t be sold at the sale. But, it’s not unheard of that they are.  What’s the result?  Eventually, your lien will be deemed a sale-in-error and you will get your investment back with little or no interest.

Are there pari passu liens that are on par or ahead of property taxes?

These include federal tax liens, municipal fines, and community development bonds.  These can be found by looking on the tax bill, checking with the local code enforcement agency, and researching the owner of record online.  For larger liens, you could go as far as requesting a title search, but I find this is cost and time prohibitive.  If you have access, you can pull these up on commercial database services such as knowx.com and lexisnexis.com.

How backed up is the foreclosure process?

With the mortgage meltdown continuing, certain areas of the country are experiencing long delays in foreclosure cases.  In those states such as New York, New Jersey, DC, and the larger municipalities of Florida, the time it takes for a tax foreclosure (or Florida clerk sale) is up to two years.  And, that’s if no one contests your case.  All the while, taxes are accruing on your property.  You have two choices, continue to pay for the taxes or let someone else buy them at auction.  In either case, you are ultimately responsible to pay any taxes accrued after your certificate.  If you’re buying a lien on a marginal property, you may quickly be underwater on your investment.

Have the laws changed impacting tax lien investors?

As the political environment of any one state or county changes, so do the whims of the legislature to change property tax law.  Do you research early to see if there any pending or recently enacted laws that change the equation of your investment.  The trend in recent years nationwide has favored the tax lien investor, but that could change course as more taxpayers are in financial distress.

Can I afford to foreclose and am I willing to pay subsequent taxes?

If you’ve been involved in tax lien investing for a while, you know that purchasing the lien at auction is just the initial investment.  Subsequent taxes, legal fees, and eventually property disposition costs can be substantial.  Know what you’re getting into and prepare for any eventuality to ensure you get back your investment with a profit.