5 Things to Know About Buying a Property With a Tax Lien
A tax lien on the home of your dreams doesn't have to be a headache.
If you purchase a home with a property tax lien, you should expect that you'll have to catch up on more maintenance work than normal.(Getty Images)
The home of your dreams comes with a caveat – in the form of a property tax lien – and you’re not sure what to do. Friends and real estate agents have told you to consider the lien a red flag and move on.
But more often than not, a tax lien on a property doesn’t need to get in the way of your perfect home purchase. It’s simply a matter of doing your homework on the reason for the lien, the amount it’s for and whether your agreed-upon sale price will take care of seller’s debt.
Property taxes are collected by state and local governments to fund public services and institutions and are most often associated with public education, first responder services and operational costs of local museums and parks. In 2016, state, county and local governments throughout the U.S. collected nearly $18.3 billion in property taxes, according to the U.S. Census Bureau.
[Read: The Guide for First-Time Homebuyers.]
A lien is placed on a property when the homeowner fails to pay annual property taxes to the state or local government. The lien is the amount owed and must be paid in order for the sale or refinancing of the property to go through. Other forms of tax debt can also lead to a tax lien on the property.
The mention of a lien can send many homebuyers or investors running for the hills for fear of having to pay off huge amounts of money that have long gone ignored by the seller.
Fortunately, that’s often not the case, says Bob Grubb, CEO of Alliant National Title Insurance Company. In many cases, as long as the homeowner has enough equity in the property, the lien can be paid off with the proceeds of the sale at the time of closing.
“The tax lien would be cured at the closing of the transaction,” Grubb says. “The proceeds that the sellers would get would be swept off to clear that tax lien.”
But if the lien, combined with the mortgage on the house, adds up to more than the sale price, the deal can get tricky. If you owe $300,000 on your mortgage (or mortgages) and have a tax lien for $10,000, a buyer's offer of $295,000 doesn't cover your total debt.
Often, a property tax lien will take precedent as the first lien over the mortgage. This can mean the lender that holds the mortgage will refuse to agree to the sale unless the IRS agrees to make the tax lien secondary to the existing mortgage – meaning the mortgage will be paid off first – and making it more likely the mortgage lien will be paid in full. In any situation when the property’s sale price is less than the total amount of liens on the property, it is a short sale and requires the additional steps for approval by all lien holders involved.
Your title insurance company, whose first job is to research the property’s title and discover all possible defects, as Grubb notes, will first see if the lien can be cleared easily at closing. If not, the title insurance notifies the buyer and seller, who will then have to negotiate to clear the liens and ensure all lien holders are satisfied with the deal.
At this point, you may be looking at a lengthy process to get approval for a short sale from all lenders involved. Expect the deal to take five to six months to get full approval from all parties involved.
Especially if it took the discovery from your title insurance company for you to learn that the home was underwater, there’s a good chance the seller will make the short sale process more complicated. John Myers, owner and qualifying broker for Myers & Myers Real Estate in Albuquerque, New Mexico, who specializes in short sales, says a seller’s unwillingness to provide financial information to the lenders involved is often what causes roadblocks.
“When I’m working with a seller, I’m going to need to make sure they’re willing to provide that information,” Myers says.
If you’re not interested in going through the process or you don’t have the time needed to complete a short sale, your best option is probably to walk away.
[Read: How to Appeal Your Property Taxes.]
During hard economic times like the Great Recession, the IRS will work to modify the procedure to help speed up the process of making property tax liens secondary to mortgages or establish payment plans to help get homeowners out from under the financial burden of a home with several liens. Many of these changes last for the duration of economic downturns and expire when they’re no longer in high demand.
Even with a strong economy and housing market, you may find the property you want to buy has a tax lien on it. Here are five key details to understand before you take your next step in the homebuying process.
Title insurance is key. It's often listed as one of your closing costs, and you should purchase title insurance for the property you’re buying. “What title insurance does is it protects people’s property rights,” Grubb explains. That means making sure the claim to the title of the property is free and clear of any liens. Contact a title insurance company as soon as you go under contract because you want to be sure the discovery process takes place before closing – and a representative for the title insurance company is often at the closing table itself.
Your title insurance will take care of a missed lien. Sometimes liens of any origin – property taxes, unpaid child support or unpaid homeowners association dues – are missed in the original discovery period. If you purchased title insurance, any liens on the property that were missed prior to closing become the responsibility of your title insurance company. You don’t have to worry about paying it off or hiring an attorney. “We’ll go and we’ll pay those property taxes right away,” Grubb says. “Our job is to protect the person who bought that property.”
Without title insurance, any undiscovered lien is your responsibility. If you did not purchase title insurance, unpaid property taxes or a roofer who has yet to be paid for work on the house with a lien that wasn't found before closing becomes your responsibility. As unfair as it may seem, liens are tied to the property rather than the individual owner and therefore become your issue once you take ownership. It’s in your best interest to pay off the liens as soon as possible to avoid interest building up or even foreclosure of the property entirely. If you’re financing your purchase, your lender will likely purchase title insurance as well, but that insurance does not absolve you of responsibility for old debts – it protects the lender, not you.
Tax liens may imply deferred maintenance. Not every unpaid property tax is a result of the seller’s financial distress, but if combined with multiple liens on the property, expect the home to have a few issues. If the homeowner wasn’t able to keep up on bills for a year or two, it’s likely the property hasn’t been getting regular maintenance for the same time period. If tax liens, combined with other debts, lead to a short sale, “just understand you’re buying the home as-is,” Myers says.
[Read: 6 Tax Breaks for Homeowners.]
It’s on you to keep up with your property taxes. While you’re hopefully free and clear of any liens once closing is complete, it’s your responsibility to be sure you pay your property taxes in full and on time. Many county or state governments will post the outstanding amount for each parcel of property that is delinquent on taxes every year. Avoid getting in over your head with property taxes by keeping up with the assessed value of the property, and know your parcel number so you can look it up if you appear on the list of delinquent properties.