Chapter 17
The Purchase of Title Insurance
Though owning real estate is one of the most valuable freedoms granted by our nation, it does come with some risk. Title insurance can serve to eliminate those risks and the losses associated with events that may have occurred long before the buyer bought the property. It is therefore strongly recommended that any purchaser of real property obtain a suitable form of title insurance.
The primary function of title insurance is to protect owners in the event of an actual defect in the chain of ownership and against hidden hazards that may threaten an owner’s financial investment in the property. Title insurance typically covers everything contained within your property’s survey, which is a detailed map that encompasses your property’s boundaries and landmarks.
If you are obtaining a mortgage, it should be noted that your lender will require you to purchase a title insurance Loan Policy for itself in addition to your Owner’s Policy of title insurance. The differences between these two policies are explained in the next two sections.
The Owner’s Policy
An Owner’s Policy of title insurance is a contractual obligation whereby the title company agrees under the terms of a contract called a title policy to indemnify an owner due to the loss of an ownership interest in the property. This kind of policy is purchased at closing for a one-time fee, and it reimburses the property owner if there is a legal barrier to occupancy, use, or resale of the insured property or a portion of it.
An Owner’s Policy continues for as long as the owner owns the property. Keep in mind that payment made due to a loss or defect in the ownership of the property is valued at the date you purchased the property——not the current fair market value of the property. However, you can pay a higher premium for reimbursement of value at the time of loss.
The Loan Policy
This title insurance policy insures that the lender is receiving a valid lien on the property. Loan Policies also cover any defects in the loan, such as mortgage fraud or a forgery where an imposter pretending to be the seller collects loan proceeds.
Although the lender is the party who receives the protection here, the purchaser is usually required to pay for it. However, while the Owner’s Policy should continue for as long as you own the property, the title insurance Loan Policy’s relevancy to the purchaser terminates upon the proper transfer of funds to the borrower.
Typically, the purchaser pays for all title insurance policies. However, you should find out what the custom is within your locality, since the party that pays for the Owner’s Policy can vary between states and even between counties within the same state. For instance, while the buyer would customarily pay for their own Owner’s Policy in New York, New Jersey, Pennsylvania, and other East Coast states, it is the seller that would normally purchase the Owner’s Policy for the buyer in Colorado, Illinois, certain counties in California, and other states. Additionally, in some areas such as Birmingham, Alabama, it is customary for the buyer and the seller to split the cost of the Owner’s Policy.
WHY AN OWNER’S POLICY SHOULD ALWAYS BE PURCHASED
Although I firmly believe that all attorneys should insist that their clients acquire a title insurance policy—and most lenders will not issue a mortgage without a Loan Policy—such a purchase is not required by law. Countless issues may arise that threaten an owner’s property interest, thereby creating the need for title insurance. If the insured party has any damages or difficulty selling the house as a result of these situations, the title company will pay for all of the legal fees and costs to defend the action and reimburse the insured party with the value of the property as of the date of purchase, if a loss occurs.
Developed in the United States and sold freely in every state except Iowa (which controls and regulates its sale), title insurance provides owners with confidence and security. Homeowners know they can safely act as if they are the true owners of the property purchased, even if later events try to prove otherwise. Without title insurance, real estate purchase and sale would be much riskier, and in turn, far less valuable.
THE FUNCTION OF A TITLE INSURANCE COMPANY
You can order your title insurance from a title company once all parties have signed the contract of sale. The title company then searches all records involving the property and traces its ownership history, usually for at least 30 years. After searching and examining the property, the title company then provides you with a written title report. In order to get insurable title, you must resolve any defects in the chain of title to the property, which is also subject to change up to the completion of the closing. Investigation of title defects includes unpaid judgments against the seller, unpaid taxes, liens on the property from unpaid contractors, unsatisfied mortgages, restrictions limiting the use of the land, and any other encroachments to the property.
In a number of states, a settlement agent or title company, instead of an attorney, works with the buyer and the seller to transfer the home. This agent takes all the necessary steps to research the home’s title history and correct any defects. This includes checking for any liens, paying off old mortgages, collecting government taxes, and filing paperwork with the proper parties at court.
Unfortunately title insurance is not generally purchased in some areas; instead buyers hire attorneys to do an abstract that researches a home’s history of ownership for at least 30 years. These attorney abstracts do not provide the buyer with any insurance. However, the search serves to better inform the buyer that the seller has the power to transfer the home to them.
Title insurance rates vary between states. In several, including Florida and Texas, the State Department of Insurance decides the premiums. In many others, such as New York and New Jersey, state law determines that title insurance rates be regulated by rating bureaus. For this reason, the costs of title insurance between companies tend to be in a similar range to one another. However, in other parts of the country, including Georgia, Illinois, and Massachusetts, the cost of title insurance is not state regulated. Therefore, you may find greater rate variation in these areas.
To give you a general idea, according to the American Land Title Association, a title insurance policy tends to cost about 1/2 to 1 percent of the property’s purchase price, and the average price of a title insurance policy is $700 nationwide (American Land Title Association). Your attorney can advise you about the customs of your locality.
EXAMPLES OF WHEN TITLE INSURANCE BECOMES IMPORTANT
One typical area in which title insurance becomes important involves the recording office. This is the place where documents are recorded which let the world know that a property has a new owner. These offices occasionally make errors while handling the documents. In some cases, the fault does not lie with the recording office but with the owners or their agents who have failed to record deeds.
Title insurance also protects against losses that result from fraudulent or forged transfer documents, and thus it prevents someone else from taking the property. We are now in the midst of a title fraud epidemic. Fraudulent claims greatly increase the overall number of title claims during times of decreased lending restrictions. Many of these types of claims occur because an imposter who is pretending to be the owner of record obtains a mortgage for a property using fake identification or a forged power of attorney. With this kind of crime becoming more rampant, the need for title insurance has become more important than ever before.
Consider this true story illustrating the importance of title insurance. There was a seller who sold the same property to two different people 24 hours apart and collected the purchase price from both. Because both buyers had purchased title insurance, the title companies were left to figure out who actually got to keep the property and who had to be reimbursed for the theft. The title companies also had to cover the legal expenses entailed.
One reason commonly given for purchasing title insurance is: “What happens if some Native American tribe claims the land your house sits on actually belongs to them under one of the many treaties the federal government has disobeyed?” One such New York case involved 3,100 square miles of land stretching from the St. Lawrence Seaway to the Pennsylvania border. A particular Native American tribe claimed that the land was illegally acquired and violated several agreements and treaties. The title companies provided a defense for the existing homeowners on the stretch of land in question. If the tribe had prevailed, the title company would have had to pay to those policyholders the price of the land as it was valued at the respective dates of purchase.
In most states, adverse possession occurs when one landowner claims another’s property because of having occupied it for 10 years or more. One dispute involved five feet of property that had two small dwellings adjoined at the backyards. Though one individual claimed ownership by adverse possession, the owner of record sued upon realizing that the abutting owner had built a fence some five feet inside the border. The other owner sued back, claiming ownership of the land as a result of satisfying the technical requirements of adverse possession. Because the property had changed hands during the adverse possession period, the title company had to step in to cover both the legal fees and any resulting loss from the lawsuit.
In the above cases, the insured would ask the title company to defend the owner’s rights in the lawsuit, relieving the insured of having to pay legal fees. In addition, the insured may be able to recoup any financial losses from any loss of property.
TITLE INSURANCE AND PURCHASING A COOPERATIVE APARTMENT
Although purchasers of cooperative apartments may obtain title insurance for their units, most buyers do not obtain insurable title. In a cooperative, the underlying building or the cooperative corporation should have its own title insurance for the property. Buyers should then remind their attorneys to review the building’s title policy to ensure that proper coverage has been issued by a reputable title company. However, it is not common practice for an attorney to actually inspect these title policies. While most banks will not permit a buyer to receive monies for a loan without title insurance, title insurance is not customarily purchased when the closing involves a cooperative apartment. Instead, a lien search—which does not convey any form of insurance—is normally ordered. Lien searches investigate the property and unit to determine whether any encumbrances such as judgments, liens, or unpaid taxes and claims, burden the home.
In a few parts of the country, including some areas of upstate New York, a buyer’s attorney typically orders an abstract instead of title insurance when a purchase does not involve a bank loan. This document provides a history of title to the property with copies of all relevant documents and is prepared by an abstracter, who runs a history of the property for at least 30 years. He or she checks public records to uncover ownership information and any liens or encumbrances. The buyer’s attorney then reads the abstract and checks public records to bring it up to date. The attorney will then certify to the buyer that the title is good.
Keep in mind that since abstracts do not provide actual title insurance, a mistake in this document may put the buyer’s investment and possession of the home in jeopardy. Abstracts fail to address other important issues that title insurance covers, such as boundary disputes, adverse possession, identity theft, forgeries, and other forms of fraud. All these are outside the scope of a title abstract.
MY STORY: THE IMPORTANCE OF TITLE INSURANCE
I got the panicked call at about 7 PM one evening from Earl, a friend and fellow real estate attorney.
“Adam, I really, really screwed up, man,” he said, sounding out of breath. “I need help big time. I’m desperate.”
Earl went on to explain that he represented a buyer named Pura Rivas who was purchasing a two-family home from a seller named Alan. The terms of the deal were fairly unorthodox, since Alan had inherited the home after his father’s death. Because he had alcohol and money problems, the terms dictated that Pura give Alan a certain amount of cash at the time of signing, in addition to paying for Alan’s beer and food expenses for an additional six months through an account they opened together at the corner grocery. After six months, Pura would make another payment to Alan, and would then become the legal owner of the home. However, the parties agreed that Alan would live rent-free in one of the building’s apartments for the rest of his life. The signed deed would not be recorded with the county clerk’s office, but was instead to remain in Earl’s safe deposit box until the six months had passed and Pura made the final payment.
“However,” Earl continued, “I just found out that Alan had already sold the building to someone else before he sold it to Pura. This previous purchaser knows about the deal with Pura and may have already had his closing. He may have even sold the home again, himself! What do I do?”
I paused for a moment—and then I began delivering commands like I was avoiding rapid gun fire. “Even though she hasn’t paid for and does not have title insurance, get your title company on line at the clerk’s office at 7AM tomorrow morning. It opens at 9 AM, so you should be first. Remember that it usually takes two weeks for the office to record a deed, but if you hand deliver your deed in person and have it recorded while you wait, we may be able to beat the second buyer to the recording finish line. As you know, under the law, the first to record without notice of a prior sale becomes the rightful owner.”
I suggested we also visit the disputed property to learn more information about this alleged sale. I knew that if we were going to obtain any evidence about the fraud, we needed to do it now and not wait until the second buyer lawyered up.
Earl picked me up the next evening and we headed to the property. When we got out of the car, the second buyer—an imposing man named Dewey—approached us and asked what we wanted. Dewey announced that he was the rightful owner of the property, holding papers in his hand. While I don’t remember what was said next, I do remember Dewey taking a shot at my face with his fist. It certainly wasn’t the hardest punch I had ever taken, but I hit the ground anyway, hoping that the spectacle would cause him to be reasonable, or at least result in his arrest. This did not work.
But the plan of getting in line first at the recording office did. Two days later, the computer printout indicated that Pura’s deed recorded the purchase of her home 24 hours before Dewey. Knowing the law, we knew that we now had a decent chance of winning possession of the home. Within a few weeks, I was in court representing Pura. Because Dewey purchased title insurance, he was provided with a free attorney, and a very good one.
From that point on, things only got worse. The State Supreme Court judge ruled in favor of Dewey, stating that although we had recorded the deed first, Dewey conducted the first closing, and we had known about the transaction. We of course appealed immediately. My client’s life savings and dream of homeownership and Earl’s bank account were on the line—as a result of his failure to advise his client to record the deed in a timely manner. No title insurance company was going to act as savior and pick up the bill for Pura.
A few months later we received the decision from the Appellate Division in the mail. We had won. The Appellate Division decided that since Pura recorded her deed one day before Dewey, the fact that Dewey closed on the property before Pura was irrelevant—and Pura was the rightful property owner.
Pura still owns her home and has paying tenants to provide extra income. I assisted her in evicting Alan from the property, as well as his friends that occupied the other apartment in the building. Pura and I still keep in touch and she recently reported that her daughter, Stephanie, will be attending John Jay Criminal College next year in hopes of becoming a lawyer. As for Earl, he joined his wife and has created a successful real estate practice. He has never failed to order title insurance again. In fact, Earl and Pura may be the best advocates for title insurance in the world as a result of their experience with this potential nightmare. As for me, the title company that hired an attorney for my adversary wound up asking me to represent them in a different case, and they still continue to be one of my favorite clients to this day.
While this story ends happily for Pura, the absence of title insurance could have turned it into an infamous buyer’s horror story if we had recorded the deed just one day later. Pura was extraordinarily lucky. I cannot stress enough how essential the purchase of title insurance is for all future homebuyers. Unfortunately, in the end, Dewey may have also come out a winner; if the title company did not prove his fraud, they would have been required to pay him the value of the property.
CHAPTER SUMMARY AND INSIDER TIPS
- When obtaining a mortgage, your lender will require you to purchase a title insurance Loan Policy. Even though it is not required by law, you should always purchase an Owner’s Policy of title insurance. Both foreseeable and unforeseeable issues may crop up and threaten an owner’s property interest, thus creating the need for title insurance.
- Your attorney, settlement agent, or real estate professional can order title insurance once all parties have signed the contract of sale.
- You should find out what the custom is within your locality regarding which party pays for title insurance, since this can vary from one place to another. Buyers customarily pay for the Owner’s Policy in many locations, including New York, New Jersey, Pennsylvania, and other East Coast states. However, sellers normally purchase the Owner’s Policy for buyers in other states, including Colorado, Illinois, and parts of California. In other areas still, it is customary for buyers and sellers to split the cost. Speak to local real estate professionals to learn the standard procedure in the area where you wish to purchase.
- Bear in mind that paying a higher premium will allow you to purchase title insurance for the property at market value upon a loss. Otherwise, any payment you receive from your title insurance company for this loss will only be for the value as it was at the date you purchased the property—not the current fair market value of the property.
- Unfortunately, in some localities and under certain circumstances, title insurance is not customary; instead, attorneys order an abstract that researches a home’s ownership history for at least the previous 30 years. The abstract checks public records to uncover ownership information and to reveal whether there are any liens or encumbrances on the property. However, abstracts do not provide the buyer with any title insurance. So, if homebuyers are able to purchase title insurance, it is strongly recommended that they do this instead of only ordering an abstract.
- In a cooperative, the underlying building or the cooperative corporation should have its own title insurance policy for the property. Most buyers of a cooperative apartment do not purchase an Owner’s Policy. Instead, they typically order a lien search, which investigates the property and unit to determine whether there are any encumbrances.