Upset Tax Sales – Proceed with Great Caution

Tax sales are often touted as methods to get rich quick for new real estate investors.  However, it is vitally important that such an investor proceed with caution and learn the basics of the tax sale process in the jurisdiction in which he or she chooses to buy property.

Although the issues to be identified are beyond the scope of this article, at least in Pennsylvania, one of the fundamental points to grasp is the difference between the first tax sale (called the “upset sale”) and the second tax sale (called the “judicial sale”).  When a property goes into tax delinquency, and after various notices are sent to the property owner, the County Tax Claim Bureau will usually list the property for what is known as an upset sale.  The landowner has the right to pay-off the back taxes and “redeem” the property at any time prior to the upset sale.

If the property is not redeemed by the owner prior to the sale, prospective buyers will bid on the property at the upset sale.  The bidding starts at the amount of the past due taxes, which are typically quite low in comparison to the value of the property. Many potential buyers are lured into making bids because of this perceived low price.  The hidden trap in this situation is that a winning bidder at the upset sale buys the property subject to all outstanding mortgages and liens on the property.  In fact if you are the winning bidder and believe that you have bought the property at a great price, it is likely that (i) a mortgage or other lien exists on the property that will have to be paid off by the buyer and (ii) all the other bidders know that but you.  Indeed, over the past few years we have seen one incident where a buyer has bought at an upset sale only to find out that the property was weeks away from being sold at a sheriff sale for unpaid water and sewer liens and another incident where a property was bought not only subject to a mortgage, but subject to an on-going mortgage foreclosure action on that mortgage.  In both cases the legal rule and the practical rule of thumb were the same, caveat emptor or “buyer beware”.  How the buyer goes about doing his due diligence before bidding is not always obvious, but at a minimum he should have a title search done of the property so he knows what liens are present.

If the property is not sold at the upset sale, it goes back into the pool of unsold tax delinquent properties and will later be listed for the second tax sale or judicial sale.  At the judicial sale, the property will be sold free and clear of mortgages and liens.  This theoretically can be a good opportunity to purchase property; however usually a property that has equity (value after all liens are paid) in it will be saved by a mortgage lender, owner or other party prior to it reaching the judicial sale.

Be very careful at tax sales. A winning bid might be a cause for regret.

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