The only certainties in life are death and taxes. Taxes are also a certainty in real estate transactions. There are tax implications of a real estate transaction on both the buyer and the seller. It is worth understanding how taxes work within a transaction, who is responsible for those taxes, and how they are paid.
There are important property tax implications for a real estate transaction:
Property taxes to be paid: these are the state and local property taxes. These may be prepaid by the buyer depending on the date the taxes will come due.
Unpaid property taxes and liens: these are tax amounts from the seller or previous owners which have not yet been paid that must be paid out of the sale proceeds as part of the title clearing process.
Each of these has an effect on the transaction and the parties to it. Understanding each one can help to provide a full financial picture of the transaction.
Every state requires landowners to pay property taxes. In addition, most local governments, including county and municipal governments, also require property taxes. These taxes are used for a variety of purposes by the state and local governments. The most common uses at a local level include funding schools, police and fire departments, parks, and other municipal services.
Taxes are typically calculated according to a tax appraisal of the property. The tax appraisal is separate from the market appraisal done by a lender in a transaction. Typically the appraised value will be lower than the full market value.
Once the tax value is known, a formula will be used to calculate the actual amount of taxes owed for a given year. The formula used will vary state to state, county to county, and even town to town. It is important to research and understand how taxes are calculated for a property at each level to correctly estimate closing costs.
As part of closing costs, the buyer may prepay the property tax amount for the coming year or a part of the year depending upon when the taxes will be due. The seller will also pay any property taxes due prior to closing. Depending on the state, the tax amount may be completely prepaid to the proper authorities or held in an escrow account and paid out according to the typical schedule for those authorities.
Now we’ll move onto unpaid property or other taxes which have resulted in liens on the title. A lien is a significant title issue as the holder of title will be responsible for paying the underlying debt in order to lift the lien.
Liens are typically discovered as part of the title search process and are required to be cleared during closing in order to obtain title insurance. Tax liens are treated in the same manner.
While the procedure may vary, at Peak Title Professionals, lien amounts are determined during the title clearing process. The title team, or attorney where required by law, will determine where and to whom the payment must be made, in this case a governmental entity. The escrow officer or attorney will then add this payment to the list of disbursements that must be made after closing.
Once closing occurs, funds will be disbursed in accordance with the lien payoff information, and the lien should then be lifted, allowing the buyer to move forward with a title cleared of a tax lien.
Taxes are a part of most transactions in one way or another. For real estate transactions, the tax amounts can be significant. Knowing how taxes are calculated, what will be required at closing, and whether there are any unpaid taxes to worry about can give you a better picture of what will occur in the transaction. Additionally, understanding these elements and planning for them can help the transaction proceed smoothly through closing.
The information provided in Peak Title Professionals, does not, and is not intended to, constitute legal advice. All content is for general informational purposes only and is not intended to provide a complete description of the subject matter. Specific processes will vary based on applicable law. The title and closing process will be handled by a third-party attorney to the extent required by law. Product offerings vary by jurisdiction and are not available or solicited in any state where we are not licensed.
