Imagine that you've bought a home: you're all moved in, enjoying the neighborhood and making the home "your own" by brushing on some fresh paint and installing new carpet. Then, you get a letter from a lawyer stating that someone else claims to own the house, or the previous owner used the house as collateral on a loan that hasn't been paid, and you fear losing your new home. Or, maybe a utility company wants to access electrical, gas or phone lines that are located directly under a family room or kitchen addition to the house.
How do protect yourself from these situations? Title insurance. This insurance is designed to protect you against defects in title, that is, your claim to free and clear ownership in the land. Although title insurance policies and coverage vary by state and insurance companies, the process of getting a policy usually includes:
- A preliminary report, and
- A commitment
In order for you to understand what title insurance is and how it works, you need to know a few things about the underwriting process and some terms connected with this type of insurance.
Title Insurance in Brief
For a home buyer's purposes, a title insurance policy is a contract of indemnity in which the an insurance company (or "insurer") agrees to "indemnify," or compensate, the "insured," which could be you the buyer, or your lender, for financial losses that the insured sustains because of things like:
- Liens or encumbrances on, or defects in the title to, the real property
- The invalidity or unenforceability of any liens or encumbrances on the real property
- The incorrectness of searches relating to the title to the property
For example, if a bank's mortgage was unenforceable against a borrower because the borrower does not in fact have legal title to the home, say, for example, the seller didn't own the land he "sold" to the buyer, then the insurer might have to pay the bank for its loss on the mortgage.
More importantly to you, the buyer, if after you buy the home a neighbor claims and proves that he had bought several feet of your property from your seller several years before the sale and recorded a deed, the title insurer would have to pay you for your loss if it failed to discover the sale.
Liens and encumbrances are practically the same thing: they attach to the legal title to the land and typically restrict the ability to sell or use the land. Liens for failure to pay taxes, mortgages and easements or rights-of-way held by a city to manage the street where the home is located, all are good examples of encumbrances. The seller usually can't sell unless the tax lien or mortgage is paid, and the buyer can't interfere with the city's right to use the easement.
At first, a title insurer (or "title company") will perform a "title search," that is, it will investigate the public records in the government land office (or "recorder's office") in the county where the home is located. In this search, it's looking for documents that affect title to the land, such as deeds and liens.
A preliminary report is then made. It lists and details the liens, easements or other encumbrances on the land. These will be listed as "exceptions" to insurance coverage, that is, if the insurance policy was to be issued on the date of the preliminary report, the insurer would not pay you for any loss you sustain as a result of one of the listed items.
So, the preliminary report serves two purposes for the buyer: it gives you an idea of who has any type of interest in the property and it gives you and the seller a chance to have them removed, if possible, before the sale. In the examples above, for instance, it gives the seller a chance to pay the tax lien or to disprove the neighbor's claim to an area of the land.
A preliminary report does not give you any insurance coverage. It is simply an offer to give you insurance coverage, listing the various ownership interests in the land and what items will be excepted from coverage if you decide to accept it.
A commitment is an agreement by a title insurer to issue a title insurance policy to you to cover your home and land. As opposed to a preliminary report, where the insurer assumes no liability, the commitment obligates the insurer for the period specified in the commitment to sell you a title insurance policy for a specified price, or "premium."
Almost always, the commitment will contain conditions that have to be met in order for the insurance to go into and to remain in effect and exceptions to coverage, that is, as in the preliminary report, a list of items that will not be covered by the policy.
Examples of typical conditions include things like:
- Payment of the seller's mortgage
- Payment of all liens against the property and all taxes owed at the time of sale
- A valid deed transferring ownership to the buyer-insured
Some exceptions that are commonly listed in title insurance policies include:
- Restrictions, conditions, and covenants (CC&Rs) that were revealed in the public records. CC&Rs are common in new sub-divisions and typically restrict your uses of the land, such as what color you can paint your house and how many cars you can park in your driveway.
- Any claims, liens, and encumbrances against the property that were not part of the public records at the time of the title search.
Get an Owner's Policy
In almost all cases where a buyer takes a mortgage, the bank or lender requires the buyer to pay for a mortgagee's or lender's title insurance policy that protects the bank against title defects. This policy does not cover you in any way. So, be certain to buy an owner's policy to protect yourself.
Questions for Your Attorney
- How long will it take to get a policy and how much will it cost?
- Can I shop around for title insurance?
- Can I buy the seller's old insurance policy, and if so, is it a good idea?
- Is the seller's old insurance policy cancelled automatically once I buy and take possession of the house?
- A title company gave me a commitment, but it won't answer my calls or letters about actually giving me a policy. What can I do?
- What happens if my title insurance company goes out of business?