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Tax Lien 101: Investment Essentials

Tax Lien 101: Investment Essentials

If you need to diversify your investment portfolio and have a solid understanding of how real estate works, tax lien investing may be a viable strategy to consider. In 2017, approximately $14 billion in property taxes went unpaid in the U.S. This accounts for about one-third of those taxes were sold off to private investors – and many of them enjoyed nice rates of return. However, tax lien investing isn’t something that one can just jump into. Competition can be fierce. In this overview, we’ll explore the basics of tax lien investing, including:

  • how it works
  • who it’s right for and;
  • its advantages and disadvantages.

About Tax Liens and Certificates

When a property owner hasn’t paid taxes on property that they own, the local government issues a lien against it. This lien states that the property can’t be sold and ownership can’t be transferred until the amount that is owed is paid in full. When a lien like this is issued, a certificate is created. This certificate includes the total amount that is owed plus penalties and interest.

Municipalities – typically counties – often auction off these certificates. Municipalities can collect the money that they are owed right away by passing off the debt to the highest bidder. That person then assumes the right to collect payments, including interest, from the owner of the property through the redemption period. This period usually lasts anywhere from six months to three years. The vast majority of property owners repay the full amount by then. If they don’t, the owner of the certificate – the investor – is entitled to foreclose on the property to recoup the money.

Tax Lien Investing Basics

When an investor buys a lien certificate at auction, they agree to pay the amount of taxes that is owed for the right to collect that amount back from the property owner – plus interest. Interest rates for these certificates vary from state to state, which is why it’s important to understand local rules and regulations pertaining to these types of liens. The interest rate in Alabama, for instance, is 12%; in Florida, it’s 18%. 

Redemption Period

Over the course of the redemption period, an investor can collect a fair amount of money from repayments made by the property owner. In rare cases, when the owner fails to repay the amount that is owed by the end of the redemption period, the investor may place the property into foreclosure; however, this is not a reliable way to make steady returns. Even when it does happen, additional liens are often uncovered – and they can end up putting an investor in the red over the long run.

Tax Lien Investing vs. Tax Deed Investing

It’s worth noting here that there are big differences between tax lien investing and investing in tax deeds. Currently, 36 states have tax lien sales, and 31 states have tax deed sales; some states have both. With tax deeds, investors bid on the property title instead of on rate of return. If they bid and win, the tax deed is transferred to them. At the end of the redemption period, the investor may be able to pay off the delinquency and assume ownership of the property. In other words, they don’t gain the right to collect interest payments but are banking on being able to sell the property later.

Who Should Participate in Tax Lien Investing?

Tax lien investing isn’t right for everyone. Ideally, you should have a good amount of investment experience under your belt, and you should have a solid understanding of how real estate works. That’s because you will spend a lot of time investigating various properties to determine whether or not bidding on a particular lien makes sense. It pays to know how to work with real estate records and to have a good understanding of real estate terminology, for example.

Understanding Tax Lien Auctions

It also helps to be familiar with real estate auctions. That’s because tax lien auctions are quite similar, but they do vary from municipality to municipality. For example, some auctions work through a process of bidding down the interest rate. In this case, the municipality establishes a maximum interest rate for the certificate; the bidder asking for the lowest rate below that maximum wins. Other auctions work through a process of bidding a premium on the lien; in that case, the bidder offering the highest premium over the amount of the lien wins.

Because these auctions and their rules vary from place to place, it is crucial to do your homework before even attempting to enter the arena. Therefore, you should decide which county or counties you will focus on and then learn how they do things.

Pros and Cons of Tax Lien Investing

Before delving into the world of tax lien investing, it helps to understand the advantages and disadvantages.

Top advantages of tax lien investing:
  • Gain real estate exposure without investing in physical real estate
  • Get your hat in the ring with very little upfront capital – sometimes for as little as a few hundred dollars
  • Receive a lump-sum payment from your investment efforts
  • Enjoy a reliable and fairly predictable rate of return on your investment
Top disadvantages of tax lien investing include:
  • Not a viable way to generate residual income over time
  • The amount of interest that can be collected is limited by local municipalities
  • Subsequent liens that are uncovered can negate any potential returns
  • Competition is fierce – especially since so many institutional investors are involved
  • It is a time-consuming enterprise that involves a lot of research

Tax Lien Investing Steps

If you aren’t scared away from tax lien investing yet, you would probably like to gain a clearer picture of how the process works. Again, things vary depending on where you will be doing the actual investing. However, here’s a breakdown of the basic steps that are involved:

  1. Consider the Market: With tax lien investing, depressed real estate markets are better than hot real estate markets. In a thriving market, property owners can usually sell quickly and easily, giving them less incentive to work toward paying off old liens. Market conditions can vary from area to area, so do some research to identify areas that are more amenable to profitable tax lien investing.
  2. Choose a Property Type: Since this type of investing is so complicated, it helps to focus on one or two property types. For example, will you focus on commercial properties or residential ones? Will you look for liens on vacant land or on improved land?
  3. Contact the Local Treasurer: A huge factor in enjoying success with tax lien investing is knowing how the local system works. The best way to figure this out is by contacting the treasurer for the county or other municipality where you will be bidding on liens. The treasurer can tell you when such auctions are held, and they can provide you with a list of liens that will be up for auction. Make sure to also obtain the rules that go along with such auctions from the treasurer; for example, if you win, are you required to pay with cash, personal check or money order?
  4. Perform Due Diligence: After narrowing down the list that you get from the treasurer, perform research on each available option. Steer clear of properties that have incurred environmental damage or other major issues that could render them virtually worthless. Similarly, watch out for properties that are in such bad shape that the owner won’t be incentivized to get caught up with their back tax payments. It’s entirely possible for a property to be worth less than the lien that is held on it. A good rule of thumb is to divide the face amount of the delinquent lien by the current market value of the property; if the ratio falls above 4%, do not bid on that one. Check county records for in-depth information about the lien and property, including the legal description, property owner name, property address, assessed value, condition and descriptions of any improvements.
  5. Enlist an Attorney: Regardless of your level of expertise in this area, it is always wise to have a skilled real estate attorney on hand to look everything over for you along the way. Of course, paying for an attorney will cut into your returns, so this can be a bit of a double-edged sword.
  6. Bid on Liens at Auction: Have a maximum bid in mind before attending the auction. Make sure that you have whatever you will need if you win, such as a cashier’s check. Understand that bidding wars often happen at these auctions, and they can drive down the rate of return; this is an especially big problem for private investors, who often must compete with institutional investors with a lot more volume.
  7. Win an Auction: If you win on a bid, you are typically required to pay the full amount due to the municipality in full. You are also required to contact the property owner in writing by certified mail within a certain period of time. The letter must inform them that you have purchased the lien on their property and state the amount that is owed in back taxes. Later, a second letter needs to be sent if the redemption period is about to expire and the owner hasn’t paid back the full amount yet. Again, however, this rarely happens; about 98% of the time, the amount is repaid, the property remains in the owner’s possession and the process is complete.
  8. Collect Payments: Once you are in possession of the certificate, the property owner makes payments to you throughout the redemption period. These payments include the amount of interest that was agreed upon under the terms of the auction. In the very unlikely event that payments aren’t made, or that the full amount is not repaid, you can proceed to take action to foreclose on the property. However, if subsequent liens are uncovered, you may end up on the hook for them before you can do anything else – which is exactly why this type of investing is not without serious peril.

Passive Tax Lien Investing: A Viable Alternative

With so many variables at play, tax lien investing as a private, individual investor can be pretty uncertain. Once you get to the point of locking down an interest rate through an auction, of course, you have a solid idea for how much you can make. Along the way to that point, however, there are lots of potential pitfalls. Finding the time to investigate several options in-depth – and knowing how to do it properly – is a tall order for most. On top of that, many big players, including money managers and huge investment firms, have entered the tax lien investment world and made it much more difficult for private individuals to make good money since they drive down rates of return through sheer volume.

If this sounds discouraging, you might consider investing in tax liens in a more passive way through a National Tax Lien Association investor. These days, nearly 80% of tax lien certificates are sold to NTLA members. Members with portfolios with less than $1 million pay around $500, and the fee for institutional investors ranges from $2,000 to $10,000 on average. By going this route, you can rely on an annual return of between 4% to 9%. That is lower than what you could potentially get on your own, but you avoid most of the serious perils that are involved in going it alone.


When it comes to real estate investing, investors tend to focus more on buying and selling for profit or on purchasing investment properties. Tax lien investing offers a unique way to gain real estate investing exposure without investing in real property, which isn’t right for everyone, and it can be a good way to further diversify a portfolio. With some research, time and planning, it might be a viable way for you to enhance your current investment strategy.

About The Author


United Tax Liens is a group of experienced, active investors providing everyday people with access to one of the best Real Estate Investment vehicles available today.

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