Title Insurance, explained

Understanding the basics of title insurance

If you have purchased or are planning to purchase real property, you will likely want title insurance.  Despite its ubiquity, buyers often fail to understand the purpose and limitations of title insurance.  This guide will explain the different types of title insurance and the protections they provide.

The Basics

Title insurance protects a policyholder against financial loss resulting from (i) defects in title, and (ii) the invalidity or unenforceability of any liens or encumbrances on such real property.  Title insurance will either defend an insured against a lawsuit attacking the title of real property, or reimburse the policyholder for the monetary loss incurred by such policyholder, up to the dollar amount of insurance provided by the policy.  Some states have separate policies for construction loans.  A construction loan policy will likely require a “date down endorsement” upon each additional advance of loan funds to address the fact that the insured amount of the property has increased from the initial purchase price as a result of such additional funds being invested to improve the property.

Types of Title Insurance

There are two basic types of title insurance policies – an owner’s policy and a lender’s policy.

Owner’s Policy

An owner’s policy ensures a buyer that the title to the property that it has acquired is vested in the buyer and that the property is not encumbered by any defects, liens or encumbrances other than those listed as exceptions in the title policy or those that are excluded from the policy’s coverage.  A “standard” policy will typically cover (i) losses and/or damages incurred as a result of title not being marketable, and (ii) loss if there is no proper right of access to the land.  Beyond these basic coverages, buyers may purchase “extended” policies (often referred to as extended ALTA policies) that cover a larger universe of potential losses.  Such additional coverages may be added with an endorsement to the policy to address a specific coverage desire. Fidelity National Title provides a good interactive guide to optional endorsements. As referenced above, the liability limit of an owner’s policy will be the amount of insurance provided for in the policy, which will typically be the purchase price paid for the property.  However, there are instances where the buyer will opt for a policy limit in excess of the purchase price, including in the case of ground-up construction or larger scale renovations where the value of the completed asset will be more than the purchase price.

Lender’s Policy

If you are obtaining a loan secured by real property (whether as part of an acquisition or a refinancing), a lender will typically require a lender’s policy.  This policy will ensure the mortgage lender that their lien on the property is in first position.  This is important to a mortgage lender for several reasons, including to ensure that if the borrower defaults on the loan, the lender will preserve the ability to foreclose and take title to the property.  Generally, a lender’s policy covers a lender’s potential losses from: (i) the title to the property being subject to defects, liens or other encumbrances, or being unmarketable, (ii) there not being proper right of access to the land, and (iii) the lien created by the mortgage being invalid or unenforceable, or not being in first position.  Similar to an owner’s policy, each lender’s policy will include exceptions and exclusions from the coverage that the policy provides.  A lender’s policy will typically cover the full amount of the loan provided by the lender to the borrower.

Limitations of Title Insurance

As described above, title insurance, whether through an owner’s or lender’s policy, will not cover items that are excluded or excepted from the specific policy.  Every title policy will include exclusions, which are standard limitations on the coverage of a title policy. These exclusions define title risks that a policy will generally not cover.  Unlike title exceptions, which are described below, title exclusions cannot be removed.  For example, recovery for loss from title defects that are created by the insured after the date the title policy is issued will typically be excluded from any title policy.  There are two types of exceptions to title – standard and special exceptions.  Standard exceptions include, among other items, the rights of tenants who are in possession of the property, easements that are not shown in the public records, and taxes that are not yet liens on the public records.  Special exceptions are specific to a certain property based on the matters that show up on a title search of the property, including recorded easements, deeds or other items recorded against the property.  It is important for every buyer/borrower to read through the exceptions to their title policy before they finalize the policy, because if there are issues in the future that relate to these exceptions, title insurance will not cover losses stemming from such exceptions. For example, if the title exceptions show a restrictive covenant stating that the buyer may not use the property as a school, and the buyer later desires to use the property for such purpose only to discover it cannot do so, the title insurance will not cover losses stemming from such restricted use, since losses resulting from such restrictive covenant are specifically carved out of the title insurance policy. Ultimately, thoroughly reviewing the title exceptions (and the underlying documents with which they relate) is paramount to protecting any title holder’s rights.

Costs of Title Insurance

The cost of title insurance varies based on a variety of factors: the state of the property, the company provider, and the insurance coverage amount.  Unlike many other forms of insurance, title insurance is a one-time initial fee, without the need for recurring premiums to be paid.  An owner’s policy survives until the ownership of the property changes, and a lender’s policy remains in effect for as long as the loan exists.  The buyer/borrower is responsible for paying the premiums for both the owner’s policy and the lender’s policy.