The United States taxing system is often criticized for being needlessly convoluted. Depending on the state you live in, your property taxes are probably no different. Not only does every state, county, and/or township have different types of exemptions, abatements, assessments, and fees, but the way in which a homebuyer obtains tax information for a property varies from one place to the next.
Even the semantics can vary from one place to the next. A tax certificate has a completely different connotation in Florida than it does in Texas. Not to be confused with a Tax Lien Certificate, which is necessary to initiate a Tax Deed Sale, a Tax Certificate is a document that will reveal important tax information for a homebuyer or investor.
What is a Tax Certificate?
A Tax Certificate is a report detailing the individual taxing authorities for a property. This report provides a comprehensive description of the assessed value of the property, taxes imposed on a property, any tax liens place on the property, and any exemptions currently applied.
Abatement vs. Exemption
An abatement is a decrease in the assessed valuation of a property resulting in lower real estate taxes. An exemption is a credit towards the real estate taxes because the owner qualifies for one or more of the available personal exemptions.
In some states, a developer or property owner who rehabilitate a dilapidated property may apply for a tax abatement. This means they will be exempt from paying taxes on the new value of the improvements for a set period of time. The hope is this type of abatement will encourage neighborhood revitalization projects and improve the overall quality of living in a neglected neighborhood.
A tax exemption is a reduction of property taxes should the homeowner qualify. Some examples of exemptions include homestead, disability, veteran, over 65, renovations, and energy incentives. In New York, volunteer firefighters qualify for an exemption while many states offer widows and widowers exemptions.
Each state will vary in types of available exemptions and rules for qualification, so visiting your local tax assessor’s website or office may be well worth it and you may be surprised what savings you can find.
Why does a homebuyer need a tax certificate?
There are five main reasons to make sure one is ordered for your real estate closing:
- To determine what taxes you will pay.
- To verify what taxing districts a property is located within.
- To verify which (if any) municipal utility providers are paid through the property taxes.
- To uncover any debt owed to a municipality that may not be recorded as a lien yet.
- To show any potential tax liens on the property.
In many areas, the current taxes reported on a property have exemptions applied. In order for a new owner to determine the amount of taxes they will be responsible for in the future or if there are any outstanding taxes due that the seller must pay at or prior to closing, they must obtain this information.
It may also be required in the closing contract and the title commitment (usually found in the Schedule B-1 Section). A title commitment is a legal document issued by the underwriters of the lender’s and homeowner’s title insurance policy. The title agent will perform a search of the public record to ensure a list of requirements is satisfied before the policy is issued. This includes things like releases of prior mortgages, tax liens, judgments, and any other document that may “cloud” a new owner’s property rights. A property with a cloud on its title is considered defective. The commitment will also list exceptions which are items the policy will not cover should they be discovered after closing.
Title insurance policies are issued with a variety of requirements and exceptions for each state. California, New York, and Texas have policies that are unique to them. Title agents and real estate lawyers in other states will use some variation of the American Land Title Association (ALTA) form of policy.
Additionally, changes can be made by endorsements in order to provide the insured with more coverage. There are a number of ALTA standard endorsement forms. In order to meet the requirements of state laws and lenders, a title agent will utilize these different forms or completely revise a commitment. Most underwriters list which endorsements they issue depending on your state on their website. Endorsements may also cost additional money at closing.
Here is an example of a standard Texas real estate contract listing what closing cost items are required and who is responsible for each expense:
As you can see, payment of taxes is listed as a requirement in order to proceed with the real estate transaction. In this case, the settlement agent will confirm that all current taxes are paid and there are no recorded liens. A Tax Certificate provides an added benefit in that it will also show if there is an unpaid balance with a municipality that provides utilities to the property, but has yet to file a tax lien. This report gives a holistic look at the tax status of a property.
Where does a homebuyer need a tax certificate?
This search can be done in any state in the United States. However, there are some states where this particular search is especially beneficial.
Two questions to ask to determine if you need a Tax Certificate are:
- Does my state, county, and/or local municipality bill utilities through my property taxes?
- Does my state enforce code violations through tax liens?
If the answer to either question is yes, this search will reveal all the municipal debt you need to know before closing that typically won’t be found in the public record. So, whether you are a homebuyer, investor, or a real estate professional, this type of report is vital if you want to avoid hidden property debt.
For those who live and work in states where the answer is no to the above questions, you will want to ensure a municipal lien search performed instead.
Is a tax certificate required?
Not always. Cash deals don’t require it just as they don’t require title insurance. The buyer, of course, will take on the potential liability should any tax debt tied to the property is revealed after closing. Even if title insurance is obtained, should there be municipal debt that leads to a tax lien on the property after closing, it may not be covered by your title company if it is listed in the policy exceptions.
It’s important for buyers to always seek counsel from a real estate lawyer in their area to be sure that all necessary items to protect their property interests are researched before closing. You will see these items listed on your closing contract and closing disclosure. Be sure to ask your real estate lawyer, real estate agent, or title agent about any line items you don’t understand.
Buying property is a sound investment and one of the best ways to build long-term wealth, but if buyers and investors don’t do all the proper due diligence before they head to the closing table, that great investment could quickly turn into a money pit.