Tax

Why That Property You Bought at the Tax Deed Sale May Land You in Court

Recognizing the adage that “you make money when you buy,” all real estate investors look for bargains. A popular place to buy low is the tax deed auction. Many investors specialize in this area or include tax deeds among other acquisition strategies. The main drawback, however, is that when you take title through this auction, issues come with it. This article will discuss the title issues tax deed investors face and available solutions.

Before a property may be auctioned to pay the tax collector, certain procedures are required. After a property tax bill goes unpaid, there is a tax lien certificate sale. The winning bidder pays the taxes and receives a guaranteed return on investment. After a minimum of two years have passed, the certificate holder may redeem it and have a tax deed sale set. The sale is announced to the public and anyone can bid on the property. This sale will wipe out all other liens, including mortgages, with the exception of other government liens.

The winning bidder gets title to the property, in some cases, for little more than the amount of property taxes owed. Occasionally, if there is good equity, the winning bid will result in a surplus when that amount is greater than the taxes owed. In most cases, other lien-holders (usually mortgage lenders) claim the surplus funds, but if there are no other liens, the former homeowner may receive the money.

The title problem is effectively a real estate marketability issue. The title insurance industry, takes the position that tax deed title is risky. A tax deed investor may find a cash buyer willing to take the property without the assurance of a warranty deed and owner’s policy of title insurance, but that’s unlikely.

If the buyer of a property acquired through the tax deed sale uses mortgage financing, that lender will want its own title insurance coverage. This means the property is not marketable, unless the owner holds it for at least four years, which is the title insurance industry norm for considering that the coast is clear.

The main reason for the nervousness is that the legal process leading to the tax deed sale could be defective. All parties with an interest in the tax-delinquent property, including title owners, mortgage lenders and lien-holders found in the public record are entitled to notice and an opportunity to pay the tax bill or raise challenges prior to the tax sale. If the clerk of court makes mistakes and fails to notify interested parties, that could poison the underlying legal process and create a title problem.

The solution is generally found when the new owner files a lawsuit called a quiet title action. This is a legal action against all other parties who may have a valid claim on the title based on information found in the public records. These potential claim-holders are named in the suit, served legal papers and given an opportunity to respond. In the tax deed world, most quiet title actions are won on default because the court system usually gets it right by giving notice to all the proper parties leading up to the tax deed sale and nobody has a defense to raise.

Depending on the issues that may arise in any given case, the quiet title process may be completed within several months. Perpetual court congestion can cause delay even in the absence of anyone contesting the case.

As an alternative to filing a quiet title suit, some investors pursue an alternate solution. There are some specialized title insurance underwriters who will, for a higher premium than a usual title policy, take on the risk and insure the title of a tax deed property. Many real estate attorneys would prefer that investors not know about this option. In many cases, the cost of the premium will be less than the legal fees and court costs associated with the quiet title suit.

In any given situation, there may be valid considerations aside from costs. The smart investor should get the advice of counsel, do a cost-benefit analysis and determine which option is right. The answer may be to hold the property for an extended period to remove the title issue, file the quiet title suit or buy the special title insurance policy. The main thing is to make a knowing and informed business decision that’s right for the investor in their situation.

Charles Castellon has been practicing law since 1992 and is the Founder and Managing Attorney. Charles is also the principle of Esquire Title Company (“Hard Deals Made Easy”), a member of Common Wealth Land Trust Services and a real estate investor. For all your legal, title and land trust needs, call 407 851-0201 or email Charles@cpclaw.net