Tax Lien Lady's Step by Guide: How to do Due Diligence For Tax
Liens
I was at a tax lien sale when a new tax lien investor asked me
"do you really have to do due diligence on properties in a tax
lien sale? After all if you hold the tax lien certificate, you
are in first position to get paid in case of a foreclosure."
(This is true in New Jersey. Every state is different.) I tried
to explain to him the importance of doing due diligence on the
properties in a tax sale. The only real guarantee that you will
be paid on a tax lien certificate is the property. Therefore,
you want to make sure that the property is valuable. One of the
risks in tax lien investing is that the property that you hold a
tax lien on is not worth the money that you've invested.
Remember that if the lien is not redeemed you will have to pay
two or more years of taxes and foreclosure and attorney fees, in
addition to the cost of the lien. Most properties will be worth
much more than this, but a few may not be.
Due diligence for a tax lien sale is more than just looking at
the properties that you plan to bid on. You need to know how the
property is zoned, as well as what the assessment and annual
taxes are. You can find this information in the tax books that
are in the tax collector's office. You'll also be able to find
out if there is a mortgage on the property.
If you don't want to go through the hassle of looking all this
up in the tax collector's office, you can buy a subscription to
a service that provides tax sale lists with detailed
information. We use LienSource. They have a yearly subscription
fee and you can pay for the individual lists that you want. The
lists are delivered in an excel file and contain most of the
information that is in the tax books. Their website is
www.liensource.com. LienSource only covers New Jersey, Florida,
parts of NY, and Washington DC, with plans to add Connecticut,
Road Island, and Maryland. If you are in another state, there
are other companies that provide national lists. There are two
types of lists that are sold over the internet. The first type
is simply the list that you could get from the tax collector -
don't pay for this list. You want a list that is going to list
all the information in the tax records, including the property
address, owner, assessment, annual taxes, property class and
zoning, mortgage information, and amount and type of tax due.
You can find a source for lists like this by searching on the
internet with the keywords "tax lien lists" or "tax sale lists".
Most of the sites will let you preview a sample list. This
information is your first step to doing due diligence for the
properties in the sale.
You'll want to make note of the property assessments. Properties
with very low assessments are probably not worth very much.
You'll also want to check to see if there is a mortgage on the
property. If there is, that's good. It's a little extra
insurance that you will get paid on the lien. The mortgage
company is likely to pay you off before they let the property go
to foreclosure. If there is not a mortgage, you better be very
thorough in your due diligence, for there is more of a chance
that you will have to foreclose on the property in order to get
paid on your lien. You'll also want to check the class and size
of the property. Is it residential, commercial, farm, or vacant
land? For the most part, institutional investors stay away from
vacant property because it's more of a risk. We like vacant
property, but you do have to do some extra research to make sure
that the land can be developed, and even then you are taking
somewhat of a chance. For example, in the more rural areas where
there are no sewers, just septic systems, there is no way to
know for sure if a property will pass a perk test.
Here's an example of what seemed to be a good buy, but it was an
unbuildable lot. If the investor who bid on the property had
just checked the zoning he could have avoided this mistake:
I was at a sale in a fast growing somewhat rural area that I
happened to be very familiar with because my parents live in
that municipality. There was a 1.5 acre lot in the sale in a new
development of houses all built on 1.5 acre lots. It was a very
competitive sale and everything else was sold at premium,
everything, that is, except for this particular property. A
local investor got this property at 18%. Sound good? Not if you
had checked out the zoning on the property. You had to have at
least 3 acres to build in this municipality. The builder of this
development was allowed to build on 1.5 acre lots if he kept a
given number of lots vacant. This was one of those vacant lots
and was zoned as un-buildable land. The developer did not pay
the taxes to the municipality, so why should he pay the lien
holder? Sure you can foreclose in 2 years, and then what? There
is no incentive for anyone to buy this property from you. And
you have to continue to pay the taxes on it in order to hold
your lien position.
When you're bidding on land it pays to look at the tax map. Look
for things like easements and rights of way. It also pays to
talk to someone in the zoning department. Find out how many
acres you need in order to build in that particular area. How
much road frontage do you need and how deep does the property
have to be? Usually there is a specific distance that a building
has to be from the road or from the property line. Remember part
of your due diligence is finding properties that are worth
bidding on. I've had realtors do due diligence for me and
usually they miss the boat. A realtor is looking for a property
that they can sell. They're looking for something with resale
value, which is good. But more often than not, the really nice
properties are going to pay too soon for you to make a profit.
This may be different in other states, but in New Jersey, many
liens redeem right away, and this reduces your profit. I look
for properties that are run down and ill kept, but in a nice
neighborhood. If the property is not being taken care of, the
chances are better that the lien is not going to be paid off too
soon for you to make a profit. Look at the properties from the
perspective of a real estate investor, not a realtor. And don't
forget to find out if any of the sewer and utility liens have
open taxes.
We don't do title searches on properties that are in tax lien
sales. But that's because in New Jersey, the tax lien comes
before all other liens, except Federal liens like IRS liens. If
you're in another state, make yourself familiar with the lien
and foreclosure laws. You might want to do a search on a
property before you bid on it at a tax sale. In New Jersey there
is a lot of competition for liens and you would have to spend a
lot of money to do a search on every property that you want to
bid on. It's just not cost effective to do title searches before
you bid at a tax sale. It is advisable, however to do a title
search on a property when you are ready to foreclose.
One type of property that we try to stay away from are those
properties that have come out of bankruptcy, or properties that
we find out may be going into bankruptcy. The only way we know
about this is by asking the tax collector. Tax collectors in the
smaller municipalities in New Jersey usually know a lot about
the properties. If there is more than one year of taxes and
utilities owed on a property, that should throw up a little red
flag and you should ask the tax collector about it.
The other thing that we are weary about is the possibility of
any EPA issues with a property. That keeps us away from certain
commercial properties, like gas stations and auto shops, and
vacant land that is near a dump site, or land that used to be a
dump site. In New Jersey you can check the DEP web site to see
if the property that you plan on bidding on has any EPA issues.
I would imagine that other states have environmental web sites
that you can check before you bid on a property as well.
If you are just starting out in tax lien investing, your safest
bet is to bid on residential properties that have decent
appraisals. Although in some areas it can be very profitable if
you wind up foreclosing on buildable land, you need to be extra
diligent with your due diligence.
There is one more thing that you want to keep in mind when doing
due diligence on tax sale properties. Don't do your do diligence
two weeks before the sale. Wait until at least one week before
the sale. Three days before is even better. The reason for this
is that at least half of the properties that are on the original
list are going to be paid by the time of the sale. At many of
the sales in New Jersey the tax collector will allow payment
right up until the sale. You don't want to waste your time doing
due diligence on a lot of properties that are not even going to
be available. The longer you wait the more properties will drop
off the list. Of course you will have to take into account how
many properties there are to begin with. If there are a few
hundred properties you'll want to get started a week before. But
if the list is small 150 properties or less, I would wait a
little longer and start my due diligence three days before the
sale.