Buying a home? You will likely also buy title insurance to protect your investment, especially if borrowing money to buy the home. (Lenders require title insurance.) Nevertheless, title insurance is often overlooked by buyers. Going without title insurance involves some serious risk, however: Title insurance is important because it protects you and the lender in a situation where the seller or a previous owner sold the property without free and clear title.
Understanding what title insurance is and what you are purchasing prior to closing will help you in the case of a future legal claim against your property. Knowing the basics about title insurance before closing may also help you save money on your home purchase.
What Is Title Insurance?
Unlike insurance bought to protect you from future accidents (such as life insurance or car insurance), title insurance protects your home from preexisting title issues. Before you arrived on the scene, the house and land you are purchasing likely went through several owners.
But what if, for example, a prior seller was not the actual owner of the property you're buying? In that case, the actual owner may one day discover the error and claim ownership. Or what if you discover, after closing, that you do not have legal access to your property?
Depending on the policy purchased, title insurance will protect you and your lender in such situations.
There are two main types of title insurance: a lender’s policy and an owner’s policy. If you are borrowing money for your home purchase, you will be required to buy a lender’s policy. This policy does not cover you, but instead your lender. In the above example where a previous owner shows up, a lender’s policy would cover the claim only up to an amount equal to the balance on the outstanding loan. So, the lender will get repaid, but you will not be covered for any equity in the home you might have.
An owner’s policy insures the property buyer (owner). In some areas of the United States, a seller may buy the owner’s policy for the buyer. In other areas, an owner’s policy is optional.
Buying an owner’s policy is a good idea, since the lender’s policy does not protect you, and the losses could be major. Going back to the same example, if you have an owner’s policy, you will be able to recover the equity you have in the property. So, if the house is worth $300,000, and you have an outstanding loan for $200,000, you will receive the difference ($100,000).
What Is a Preliminary Title Report?
Prior to issuing title insurance, the title company will send you a preliminary title report. The company will search public records to see whether the property has "clear title” and compile a preliminary title report listing all liens and encumbrances on the property.
These liens and encumbrances are identified as “exceptions” in the report. Any title insurance issued will not cover these exceptions, which means you will be buying the property subject to whatever exceptions were identified. For example, if a shared well agreement with a neighbor is identified as an exception in the report, you will be buying the property subject to that agreement.
The preliminary title report will likely identify some exceptions that need to be removed from the report prior to closing, because they diminish the value of the property. If, for example, a construction lien is listed as an exception in the report (most likely due to an unhappy contractor having filed a claim for nonpayment), you will want to work with the seller and title company to make sure that lien is removed as an exception prior to closing. If you do not, you will buy the property subject to that lien and could be responsible for paying it off.
To fully understand which exceptions are okay to leave, and which need to be removed before closing, you should talk to a real estate attorney. Some exceptions, such as unpaid property taxes for the current year, may get settled at closing. Other exceptions, though, may have a significant impact on the value of the property. The preliminary title report includes important information about the property you are purchasing, so it needs to be reviewed and fully understood before closing.
What Does Title Insurance Typically Cost?
Although some closing costs are not negotiable, spending the time to make sure you do not overpay for title insurance is worthwhile. The cost of the title insurance premium is normally based on the home’s purchase price. Accordingly, the cost of insurance is less for a cheaper home. An owner’s policy is normally more expensive than a lender’s policy. However, when an owner’s policy and a lender’s policy are bought simultaneously, the title company normally offers a discount. If both policies are being bought, be sure to double check that you are not being charged fully for both.
Shop around to make sure the title company you use is offering the best price. In some states, like Texas, the rates are fixed, so it may not prove worthwhile to shop around. Also check to see if any of the additional fees charged by the title company can be lowered. And ask to see the title company’s rate manual to make sure you are not being overcharged.
Many buyers simply rely on their real estate agent or closing attorney to tell them what title company to use. It most cases it is reasonable to rely on these recommendations; after all, they work in the industry and should know what title company is the best. However, as the consumer, it is still in your interest to shop around to make sure you are getting the best deal.
Why Are Title Insurance Costs Different Around the Country?
The cost of title insurance varies from state to state. It can also vary within counties, based on services covered by the title insurance company. Each state has its own regulatory system. Costs will depend on those regulations, as well as competition in the market.
Questions for Your Attorney
- Can I buy a house with no title insurance if I pay cash and do not have a mortgage?
- Should I be worried about the exceptions listed in the title report?
- What fees being charged by the title company are negotiable?
- Can I make the seller buy the title insurance?