The premium is an amount above the amount of the tax lien certificate that the investor will pay to the municipality to acquire the lien. When the premium is paid for a lien, it is not the lowest interest rate offered that wins the lien, but the highest premium. The premium is not offered in all states that sell links. In some states, the interest rate is offered at a lower rate and the lien is sold to the investor who offers the lowest interest rate. In other states, the interest rate is held constant while a premium is offered on the lien, which lowers your yield on the lien (since no interest is paid on the premium in most states).

Each state has its own rules regarding offers and whether or not a premium is offered. New Jersey is unusual in that the interest rate is bid low and once the interest is bid at 0%, the premium is bid. This means that the investor does not earn interest on the amount of the certificate or the premium, which significantly reduces the returns on this investment. The only interest charged in this case is the interest paid on subsequent taxes, which in New Jersey is 18% for bond amounts greater than $1,500.00.

In New Jersey, the premiums are withheld by the municipality and if the lien is not redeemed within a 5 year period, that money is not returned to the investor. Of course, the investor can initiate foreclosure proceedings after 2 years, but if the property is foreclosed, the investor does not recover the premium from him. He can get the property, but the premium will be forfeited and considered part of the cost of the property. The rules about when and if the premium is returned to the investor and whether or not interest is paid on the premium offer are different for each state.

Why did this happened?

At almost every tax lien sale I attend, there is a local investor, new to tax lien investing, who is confused and wants to know what is going on. Why would someone want to buy a lien, pay more than the amount of the lien, and get no interest on their initial investment? They assume that investors do this in the hope that they can foreclose on the property.

The real reason tax lien investors pay a premium is that once you are the lien holder, then you have the ability to pay subsequent taxes. In New Jersey, you can earn 8-18% on subsequent taxes, depending on how much is owed. For amounts due above $1500.00 the interest rate is 18%, for amounts due below $1500.00 the interest rate is 8%. Also, as long as the lien is redeemed after the issuance of the certificate, even though you have not obtained the amount of the certificate at an interest rate, there is an additional redemption penalty payable to the lien holder. The redemption penalty in New Jersey is 2% for certificate amounts of $200.00 to $4,999.99, 4% for certificate amounts of $5,000.00 to 9,999.99, and 6% for certificate amounts of $10,000.00 or more. The homeowner must pay this penalty when redeeming the lien and it is only calculated on the amount of the certificate, not on any subsequent taxes paid by the lien holder. Each state also has different penalties that can be applied in addition to the amount of interest on the link.

On top of all this, some New Jersey municipalities have an additional year-end penalty for back taxes in excess of $10,000. A 6% penalty is added for amounts due in excess of $10,000.00 at the end of the year. This penalty only applies to subsequent taxes. So, if you own a lien and have paid more than $10,000.00 in back taxes, at the end of the year the owner will have to pay you back 24%, if you redeem the lien, you’ll also get the penalty. for redemption in the amount of the certificate of your link.

A simplified example

Let’s look at a somewhat simplified example: Let’s say you’re going into a sale and lien of $5,000 on a property with annual taxes of $10,000.00 (not unusual in some New Jersey municipalities) and offer a premium of $10,000. You pay the municipality $15,000.00 (amount of lien + premium) on the day of sale. The sale happens on December 1st and delinquent taxes from last year are being sold. On December 11, you pay current year taxes of $10,000.00. And let’s say the lien is redeemed on December 11 of the following year and you paid no further taxes after that.

To redeem the lien, the property owner must pay the amount of the certificate plus the redemption penalty and the amount of the subsequent 24% tax. That’s $5,000 (lien amount) + $200 (4% redemption penalty) + $10,000.00 (after taxes) + $2400.00 (24% subs) = $17,600. The municipality has to pay you back your premium of $10,000.00. You raise $27,600.00. His initial investment was 25,000.00. You have a total profit of $2,600.00 for a return of 10.4%. This is a simplified example. Your actual return will be slightly higher if you continue to pay subsequent taxes until the bond is redeemed.