Tax Lien Investing are one of this country's most secure and lucrative investment strategies. This is so because the state mandates the rate of return and the tax lien certificates is backed by the real estate for which the tax lien was placed. The rate of return is also quite high; 8% APR on the low side and 25% APR on the high side.
There are a couple ways the rate of return is paid on your tax sale properties and many new investors don't understand the difference or what it means for their tax lien investment.
Most states pay an annual interest rate while some other states pay a flat penalty fee toward your tax lien certificate. Let's talk about the difference.
Annual Rate of Return
If you buy a tax lien for $1,000 with a 16% annual interest rate then each month you would receive 1.33% on your money or $10. If the property owner redeems any time during the 6th month of the year then you would receive a check from the county for your original $1,000 plus the accrued interest to that point (1.33% x 1,000 x 6 = $80).
One thing to remember is that you will receive the full month's interest at any point during the month, no matter if it's the first day of the month or the last day.
If the property owner redeems during the final month of the year then the tax lien investor would receive 16% on their money equaling $160.
Flat Penalty Fee
If you buy a tax lien for $1,000 with a 16% penalty then you would receive a flat 16% when the property owner redeems anytime during the redemption period. The tax lien investor would receive 16% or $160 anytime during the redemption period; no matter if the property owner redeems the day after the tax lien was bought or the final day of the redemption period.
Penalty fees are very powerful because if you were to calculate the penalty like an annual rate of return then your rate of return is much bigger than a normal annually accruing rate of return. The only way you would receive 16% is if the property owner redeemed the final day of the year. Otherwise, your rate of return is much greater. For example, if they redeemed the final day of the first month of the year then your rate of return would be 494%. Nice!
Make sure to check with the county before investing to know whether they pay an annual rate of return or a flat penalty.
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