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OTC Tax Liens: How We Made 6% in Less Than 120 Days with Tax Liens

by Ankit Duggal on June 5, 2013 · 16 comments

  
Tax Liens

Are you tired of active investing? Only have $5,000 to $10,000 of investment capital? Tax Liens are a great proxy real estate investment vehicle that is a possible solution to both those questions.

If this sounds like dejavu to readers of my blog then you are not wrong as I have written about tax lien investing before in my No Toilet Investment series. The point of this article is share my case study is to show you how you can make returns investing into tax liens passively

Just as a brief review on what are Tax Liens:

Tax Liens come about as a function of cash flow management by municipalities. If a property owner doesn’t pay their quarterly property taxes, then a municipality places a tax lien on his or her property. The local government gets its cash immediately by selling the lien to a private buyer. The buyer gets the right to collect the delinquent tax, a penalty and interest on the late payment that can (in theory) run as high as 12% to 36% a year, depending on the state.

Review everything: Tax Liens: What They Are and How to Use Them in Your Business

You can invest in Tax Liens while having a Full Time Job!

I started talking to a friend of mine, Jay, about investing into tax liens. Let me give you a tad bit of color on my buddy, Jay:

Jay is a wicked smart MBA who has a full time corporate job and was looking to grow his cash in alternative asset investments. He was initially looking into short sales but when we talked about the amount of time needed to spend with no guarantee of a payout he quickly moved on from that idea. I introduced Jay to the world of Tax Liens with a few book recommendations. In no time, Jay and I started talking about tax liens as an investment instrument and how we can work together making investments into tax liens. We quickly decided that we were too small a fish to complete at the actual tax lien auctions.

We Were Small Fish in Tax Lien Waters

I had attended numerous tax lien auctions before meeting Jay as I was looking to earn double-digit returns on my personal cash. By attending these auctions, I quickly realized two things:

1.   Big funds and investment syndicates with millions of dollars to deploy were attending these to buy liens with lower return hurdles than me.

2.  Tax and Municipal Liens in non-urban cities are going at 0% interest rate to $5,000+ premiums to the lien face value.

I shared these insights with Jay as we started talking about investing into tax liens. I shared my investment thesis of buying left over liens that many books referred to as “Orphan Liens” or “Over the Counter Liens.”

What the heck are OTC liens Jay asked?

Over The Counter (OTC) are the liens that taken back by the municipalities as they did not sell on the date of the auction.  OTC liens have pros & cons that you as reader should know about in my personal opinion:

Cons

I will go through a list of cons first as I always believe in sharing the bad stuff first for some reason:

Junk Liens- You will hear from books and auction tax lien buyers that all the liens in the OTC list are junk liens. The reasoning stems from the fact that many counties will re-bid properties/liens that don’t sell the first time, either right after the sale is over, or in another tax sale. So in many counties tax properties have to survive 2 tax sales before they get onto that leftover list. Almost all of the leftover properties are junk properties.

There is an element of truth to this statement as lot of the liens on the Leftover/ “Orphan List” are usually junk but you can find the gems in the junk if you spend the time digging through the trash. A good property does get onto the OTC list, but that’s usually not because it didn’t get any bids in the tax sale as at times bidders don’t have the proper form of payment, or don’t pay up by the deadline.

Time Commitment- This strategy is very time intensive is another con that comes up as you think about investing into OTC liens.

Expertise-Buying OTC liens does require a degree of risk underwriting expertise that maybe tougher for beginner real estate investors. Hence it is important to gain more real estate experience through reading and mentorship or partner with a more experienced real estate operator.

Pros

The pros fairly obvious:

High Yields - Buying OTC liens gets you a guaranteed maximum interest rate from day one along with the right to buy subsequent high return tax liens.

Ability to Foreclosure Buying OTC liens has the added benefit of being able to foreclose on the property faster in tax lien states when compared to buying liens at the auction. The reason this exists is that liens bought from the municipality has the rights conferred that have been reserved by the municipality.

Starting Down Your OTC Investing Journey

You want to start on your OTC investing journey. How does go about getting into OTC liens?

One way to work this strategy is to be at the tax sale and note which tax liens are not sold, and then get that left-over list as soon as its published and take action immediately. This way you will know what properties are likely to be on the list from the last sale that are good properties and not junk, and you can do your due diligence on these properties ahead of time. So that when the list comes out you can submit a bid.

Jay and my way involved a little less time commitment. I want to take you down the journey that Jay and I went through on buying one of our first OTC liens.

There are 6 stops on this OTC investing road journey. So let’s spend some time defining these milestones:

  1. Get a list of left over liens from municipalities.
  2. Figuring which liens you want to buy and completing through due diligence on those liens.
  3. Now that we have completed out due diligence and we have a list of interested liens; let’s get them liens! You will have to compete with other investors who might want those liens as well and have to convince the tax collector as well.
  4. Just because you fought and clawed your way to get a lien doesn’t mean that you’re at your destination. We need to register the lien with the right authority to protect our investment interest.
  5. Now that you got lien, you can increase your investment.
  6. Get you money back along with a sweet return.

Lets go through these steps in greater detail utilizing example of an actual lien on NameChanged Avenue that we purchased in Jersey City, New Jersey.

158 NameChanged Avenue, Jersey City, New Jersey

 photo pic1_zps6140bf70.jpg

(1) Jay lived in Jersey City, and I had invested in Jersey City real estate as well. When we thought about testing out the OTC investment strategy. The mutual backyard of Jersey City came to both our minds.

Jersey City had recently completed its annual tax sale and Jay reached out to the tax collector office to find out if he could buy left over tax liens. The first call led to the local worker confused and stated that they never did anything like that. I then asked Jay to call back and ask to speak with the tax collector and advise them that we were a local investment partnership looking to purchase tax liens that were left over from the municipalities last tax sale auction. That conversation lead to Jay having to fill some municipal forms and letter to finally get the list provided below:

 photo pic2_zps991d3b61.jpg

(2) The list came in via fax and contained 88 liens. Now if you are a regular auction lien buyer then 80 liens may not a lot to review. For Jay and me this endeavor was a part time venture so 80 liens were a lot of work to complete. I decide to draft a tax lien strategy that laid out certain ground rules i.e. not buying tax liens on vacant land, Planned Unit Developments, and Condominium. Jay used those investment rules to filter down the OTC lien list from 80 liens down to one page of a few liens.

We then create a due diligence flow process that contained the following steps:

  1. Drive By- we completed a physical drive by of each lien. We utilized the drive by to narrow our list further taking out the liens that were on condemned or in need of a complete demolition.  Remember you cannot enter the asset so you have conduct your asset review from the sidewalk of the house.
  2. Comp Research- we utilized my MLS access to seek out as-is and after repaired value comparative market analysis
  3. Voluntary Research- Utilizing county clerk office, I looked up relevant mortgage records on the narrowed list of liens.
  4. Municipal Research- Jay completed open record act requests to gain further detail on each tax lien.

Jay and I utilized the steps above to narrow our list of liens down to 2 liens that passed our strategy and due diligence test. Funny thing was that both the liens were water & sewer liens (this is backdoor method to investing into buying future tax lien subsequent) rather than actual tax liens.

(3) Now that we had 2 target liens identified we started the process of getting the liens issued to us. Jay contacted the tax collector to express our interest and made sure that the liens were still available for assignment. Jay then created a formal written request in for the liens we wish to purchase from the municipality of Jersey City.

Jay realized the importance of actively managing the relationship and process with the tax collector given that the assignment had to be approved by the city council and the tax collector was our primary point of contact and insight through that process. Jay maintained regular and consistent follow up to make sure that the lien assignment got accepted.

On the morning following the council meeting, Jay got a communication from the tax collector that our liens assignment offer had been accepted. Jay rushed the same day to create a certified check (City will not take a personal or business check for the initial assignment):

 photo pic3_zps5fe36857.jpg;

(4) Our certified check got us a tax lien assignment certificate associated with NameChanged Avenue assets. Our certificate entitled us the right to buy unpaid subsequent taxes and earn 18% on the current investment and all future investments.

 photo pic4_zps9535bf15.jpg

We got the certificate! YES! But our work is not done. The lien would only be effective if it showed up on a title search. And for that we needed to take a trip to our friendly County Clerk’s office. Or maybe indifferent is a better word. We got the assignment affidavit and the tax lien certificate registered with the County Clerk so that if the owner tried to sell this property our lien, that is paramount on the debt stack, showed up and we would have to be paid off before they can close on the sale or refinance transaction.

(5) The goal of tax lien investing is to keep making investments into subsequent taxes so that you can grow your interest and returns. How do we do that? Simple, every quarter a new set of property taxes and municipal charges are due. If the owner does not pay them, we can pay those charges and increase our investment. Now why would we want to put more money in at this point. Because this money automatically starts earning an 18% return from the day we invest it. So 10 days after the taxes were due for the next quarter we called up the Tax Collector to see if the tax was paid.

In the case of the lien on 158 NameChanged the mortgage company paid the tax. Bummer!

But for 156 NameChanged the tax was delinquent.

So we drafted up an affidavit and attached our check along with it to add to our lien. Our lien for 156 NameChanged just increased by $960.45.

Here is a sample affidavit of subsequent tax that you have to fill out and get the tax collector to sign to make sure that your subsequent investment is protected:

 photo pic5_zps711de12b.jpg

(6) Getting paid is the final goal of all investing! In tax liens that payback comes in the form of redemption or foreclosure. I have still to successfully foreclosure on a tax lien asset but in the case of our test investments on 158 NameChanged Avenue we have gotten redeemed, wherein the owner or another party with an interest in the asset pays off your principal, interest and penalties owed to you.

About a week ago, Jay got a call from the tax collector office advising him that our 158 NameChanged Avenue tax lien had gotten paid off. Since the mortgage company had paid the Q1 taxes they were probably getting ready to take over the asset and didn’t want us hanging around. No worries, we still made a return on our money and got a redemption penalty for our troubles.

So how did we wind up doing?

We invested almost $5,000 over the duration of 4 months and made a 6% return net of all county recording fees.

I look forward to sharing a picture of the actual redemption check as soon as it arrives in the mail from Jersey City Municipal Authority (JCMA).

A Word of Caution

Be careful, if someone other than the TC tries to redeem the lien by contacting you directly. They are a fraud. By accepting money from them directly, you could forfeit your lien and no one wants that. The redemption process has to be worked through the Tax Collector.

Jay and I have continued down our OTC investment journey. We recently started a holding company and have invested into $15,000+ worth of OTC liens that continue to accrue a return,and we continue to pay the subsequent taxes on it to increase our position. So keep dreaming and pushing for your invesments.

Happy Investing!

Photo: 401(K) 2013

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{ 16 comments… read them below or add one }

Ron Ridgway June 5, 2013 at 9:42 am

Another great investment avenue.

Reply

Jared Xamir June 5, 2013 at 10:54 am

What are a few books you recommend reading before someone gets started in investing in tax liens?

Reply

Ankit Duggal June 7, 2013 at 12:19 pm

Jared

A few books that I would recommend are as follows:
Profit by Investing in Real Estate Tax Liens: Earn Safe, Secured, and Fixed Returns Every Time by Larry B. Loftis (Nov 6, 2007)
Zero Risk Real Estate: Creating Wealth Through Tax Liens and Tax Deeds by Chip Cummings (Oct 12, 2012)

I have another book but that is NJ specific so not sure if it would apply to your investment state. If it does then shoot me a private message.

Ankit

Reply

Jared Xamir June 7, 2013 at 12:24 pm

No, i’m in Georgia. but thank you for the recommendations!

Reply

Ben February 10, 2014 at 4:51 pm

Ankit,
I just listened to your interview on the BiggerPockets podcast and read a number of your articles on tax liens. I am thinking about starting to invest in tax liens in Southern NJ and wanted to get your recommendation on a NJ centric Tax Lien book. Any advice you could lend would be greatly appreciated.

Best,
Ben

Reply

Ankit Duggal February 11, 2014 at 11:58 am

Ben

You can utilize TaxLien$ by by Michael Pellegrino

Joshua June 5, 2013 at 4:13 pm

Ankit:

Excellent post! My question to you is: If the taxes or service (sewer/etc) continue to not be paid are you required to keep paying them? If so, for how long? Can you provide an example of what happens if the taxes were paid a year from now, two years from now, or more?

Reply

Ankit Duggal June 7, 2013 at 12:22 pm

Joshua

Thanks for the comment. Below are the answers to your questions:

If the taxes or service (sewer/etc) continue to not be paid are you required to keep paying them?
You do not have to continue paying them but you can loose your priority position and be subject to redemption by another tax lien holder. It comes down to your investment plan and how much capital you are looking to tie up into each lien.

If so, for how long?
It depends on your state. In NJ, you have to continue paying liens for 2 years for non-OTC liens. OTC liens wise you have to continue paying for 6 months from the auction date.

In terms of the example, what parameters would you like me to use in terms of return, penalties and continued investment into subsequent taxes?

Ankit

Reply

Joshua June 7, 2013 at 4:25 pm

Thank you for your response. In this post, your example was very smooth and there was no downside present (which is great for you seeing that it was a real-life example!).

I’m curious to what would of happens if X happened at Y step, and then something else happened on the next step, etc. to show when things go “wrong” and not as ideal as presented in this particular case.

Reply

Tony Tran June 5, 2013 at 10:13 pm

Ankit,

This is an awesome article. Tax liens are very low risk and high returns (in my opinion). They work pretty well. With that tax liens that remain unpaid (and, I believe, when it hits the two year mark), you can foreclose on it.

I am still unsuccessful in foreclosing on a property as well. The liens I had, has never hit that maturity date before it gets paid. Can you please go into a little more detail about how the foreclosure process work with a tax lien? This would help me as well as the other readers.

Thank you,

Tony

Reply

Ankit Duggal June 7, 2013 at 12:24 pm

Tony

Risk is relative so I second your thesis of tax liens being low risk and high return investments.

The foreclosure process is different for each state so I am presuming you are asking me to outline the foreclosure process for NJ? If so then just comment back and I will outline a response back.

Ankit

Reply

Tony Tran June 7, 2013 at 12:31 pm

Ankit,

Risk is relative. I concur to that statement.

An example of the foreclosure process for NJ would work. I am a bit unclear how the process transition when the lien is eligible for foreclosure.

Tony

Reply

Karan June 9, 2013 at 9:22 pm

Hi Ankit,

I have really enjoyed reading this article about Tax Lien investing. Thanks for sharing your knowledge on the subject.

I am trying to get started in investing of Tax Lien in NJ as well. I would like to know more about your due diligence flow process.

Can you elaborate a little on the steps that you and Jay took in points #3 and #4? I believe that one of these points refers to searching the title for the property to check for other liens and encumbrances on the properties, am I right? Are there any findings during these steps that would make you drop the liens from consideration?

Cheers
Karan

Reply

Paul June 9, 2013 at 10:18 pm

Thank you Ankit for this excellent post! I was just wondering whether NJ or any other States provide the possibility of purchasing the OTC liens on-line? Also apart from waiting for redemption is it possible to sell the lien to an investor? If so what sort of discount would one need to make?
Thanks in advance, Paul

Reply

Drake Graner February 13, 2014 at 12:34 pm

Excellent post Ankit! What happens if the property tax bill is not paid? Thanks!

Reply

Ankit Duggal February 13, 2014 at 7:18 pm

Thanks Drake. If the property tax bill is not paid then you can foreclose on the property after the redemption period is over for the state that your lien is located within. 

Reply

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