At every real restate closing, the buyer is handed an inventory (a HUD-1
settlement statement or its equivalent) of items for which he is being charged.
It is probably safe to say that few items on this long list of "closing costs";
elicit more questions or concerns than the entry for lender's
title
insurance. (Note: in some states, lenders title insurance is required
to be paid by the seller.)
"What,"; the buyer often asks, "is this about? I just paid $800.00 for a
homeowner's policy, and $900 for flood insurance. Now I have
to pay for title insurance?";
Just to compound the confusion, at about
this point in the closing, the escrow agent usually asks if the buyer also wants
to purchase owner's title insurance. A stressful situation gets worse, and the
agent usually scrambles to explain a complicated issue to a wigged out buyer who
is not in the mood to listen.
Almost all lenders require borrowers to purchase lender's title insurance as
a condition of a home mortgage. This protects the lender, up to the
value of the mortgage, against "defects"; in the title to the property; those
that existed before the transaction but might have been missed in the
title examination.
Most titles are thoroughly examined before any transfer of property and the
overwhelming number are clear or require only a slight tweak to make them so. A
title exam is not necessarily a legal requirement and you can probably
still buy a friend's home with a handshake and a check, then mosey over to the
courthouse and record the deed yourself. However, if a bank or mortgage company
is involved, there will be a title examination.
But title law is a very complex branch of the legal system.
Land ownership in this country goes back hundreds of years, and along the way
there may have been dozens of occasions when something could have occurred to
"cloud"; its ownership. Records were not always meticulously maintained, deeds
and claims were not always correctly recorded. Old land grants
and tribal claims still occasionally surface to cause problems
hundreds of years later.
For example, some landowners on Cape Cod (Massachusetts) were thrown into
limbo 25 years ago when the Mashpee Indian Tribe asserted strong and credible
claims to ancient ancestral lands. It was many years before the resulting issues
were settled and the current owners had clear title again. During that period,
selling or re-mortgaging a piece of the clouded property was virtually
impossible.
There are many more contemporaneous defects that can cloud a title.
- An incomplete or incorrectly exercised foreclosure or tax taking;
- Property rights that were not totally extinguished by a divorce or the
probate of an estate;
- A seller revealed, even years later, to not have actually owned the
property. This may result from actual fraud or something as innocent as an
expired or improperly executed Power of Attorney, and happens way more often
than one might want to know;
- Mistakes in recording (or failing to record) earlier documents, such as
wills or probate decisions;
- Liens for unpaid work (mechanics liens) or for estate, income, or gift
taxes;
- Adverse possession which occurs when someone has openly used a portion of
another's property (a path to the beach or an improperly positioned fence) for a
period of time without a challenge by the land owner.
- Previously unnoticed rights-of-way or easements. These give a non-owner (the
city, a utility, a neighbor) the right to use a piece of a property. Cities and
utilities often demand or purchase easements to allow construction or repair of
utility or sewer lines. A neighbor may have a right-of-way to access a
land-locked parcel or construct a driveway.
- Failure to extinguish a lender's rights. When a mortgage is sold to another
lender or paid off by the borrower, an assignment or a discharge must be
recorded transferring or canceling the mortgage. One of the real nightmares of
the 1980s/1990s banking crisis were the thousands of mortgages which failed
banks had not properly assigned. Without an assignment, the bank which held the
mortgage could not discharge it when it was paid. RTC and FDIC, as receivers of
those banks, often had no records of the old mortgages and could not know if or
to whom they had been sold or whether they had been paid. Clearing these
situations was both time consuming and expensive.
Not all of the above instances will be covered by title
insurance. First of all, there is usually a time limit (40 or 50 years
prior to the current closing is common) during which defects will be covered.
Even with title insurance, the folks on Cape Cod would still have been hanging
out to dry when the Mashpee Tribe asserted its two hundred year old claims.
Policies almost always cover problems that did not show up during the title
examination, were missed by the examiner, or resulted from errors in public
records, but they may or may not cover problems with easements, mineral, or air
rights, or some liens. Be sure to check the limits of your policy's
liability.
But lenders, understandably, want to insure that as many as possible of these
potential title problems won't end up costing them money, and lenders title
insurance essentially guarantees that a title has been adequately examined and,
if problems should arise, the title company will cover the expense of clearing
the title or defending it in court. If title cannot be cleared, the bank will be
compensated for any loss it may incur if the property is seized or loses market
value.
Lender's policies do not, however, cover the buyer's share of home ownership.
As buyer, you will, whether you want to or not, pay for your lender's peace of
mind by buying this lender's policy. The option to insure your own equity and
peace of mind is up to you, but consider the following hypothetical
situation.
You purchase a property for $200,000 and mortgage it for $150,000,
purchasing, as required, a lender's title policy. Two years later, with the
property now valued at $225,000 and the mortgage paid down to $148,000, a long
lost nephew of the previous owner (who died childless) returns from searching
for gold in the Amazon and lays claim to his uncle's estate (which pretty much
consists of your house.) The only other heir, his brother, sold the house
without benefit of probate and is nowhere to be found. The nephew's claim can
not be disputed and the sale to you is invalidated. Your bank collects its
$148,000 from the title company. You lose the house and receive no
compensation.
Far-fetched? Maybe not so. In any case, a risk worth avoiding.
Title insurance is a one-time expense and, while most people will never need
it, it is short money compared to the disasters it may prevent or mitigate.
While you will probably have to ante up another fee for lender's insurance if
you refinance, the owner's portion is good for as long as you own the house.
Owner's insurance on a $150,000 purchase is about $450.00, and inflation
protection can also be purchased.
This is not a bad deal.
Now, however, having given such a strong endorsement for owners' title
insurance, there must be full disclosure. Title insurance is an extremely
competitive business, and, for at least the third time in ten years, some title
companies have gotten just a little too aggressive, entering into some shady
practices to corner a share of the market.