In a time when foreclosures are all too common, many secured lenders end up taking title to the real properties securing their loans. One of the questions, then, is should a lender obtain an owner’s title insurance policy or is the loan title insurance policy sufficient?
As we all know, title insurance reduces the risk of the insured owner or lender by insuring one or both against loss or damage arising out of defects to or liens on title. Title insurance generally will pay for defending lawsuits attacking title and will either clear up title problems or pay the insured’s losses. Borrowers usually obtain an owner’s policy to protect against loss of title or encumbrances on title such as forged deeds, undisclosed or missing heirs, mistakes in recording legal documents, etc. At the same time, the lender will obtain a loan policy to minimize the risk of lending money for the purchase of real property. The loan policy serves as assurance that the quality of the title to the property to be acquired and pledged as security for the loan is satisfactory.
Most often, a loan policy will continue to offer protection even after the lender takes title to the property in a foreclosure or deed in lieu of foreclosure. However, certain actions may cause the insurance company to deny coverage after the lender has taken title. Lenders should be aware that there are limitations in relying on an existing loan policy.
For example, if title is taken under a different name than the name of the insured, an insurer may deny coverage. This often happens when a lender takes title in the name of an affiliate OREO entity or a special-purpose entity. The insured under the loan policy includes the original named lender, its successors and assigns, i.e. assigns of the obligation. Therefore, an affiliate OREO or special-purpose entity is not “insured” under the loan policy and, as a consequence, the insurer may deny coverage.
Even when a loan policy continues to offer protection after a lender takes title, lenders should keep in mind that an owner’s insurance policy may offer certain benefits that a loan policy does not.
First, there is greater coverage value afforded by an owner’s title insurance policy. A loan policy only insures the lesser of the face amount of the policy or outstanding amount of secured debt. On the other hand, an owner’s policy insures the entire face amount of the insurance policy. For example, assume real estate was purchased for $100,000 and a down payment of $20,000 was made. The lender would hold an $80,000 mortgage lien or beneficial interest. The loan policy would only protect the lender’s interest in lesser amount of either $80,000 or the outstanding amount of secured debt at the time of the insurance claim. However, the owner’s policy insures the entire face amount of $100,000.
Second, an owner’s policy will insure over a foreclosure. A loan policy will not protect the lender if the foreclosure was not done properly. This is because the effective date of the policy is the time of the original deed of trust or any endorsement for a later modification and, therefore, intervening matters are not covered. Obtaining an owner’s policy after a foreclosure will insure title during the period between the issuance date of the loan policy and the foreclosure. This coverage improves marketability and will help the lender to sell the property more quickly and efficiently.
Third, an owner’s policy may provide for a quicker resolution of a title claim or dispute. Generally, title insurance begins to offer coverage when the insured experiences a loss. However, “loss” is defined differently under an owner’s policy than under a loan policy. Under an owner’s policy, the insurer is obligated to provide coverage to the insured at “first loss.” On the other hand, under a loan policy, a “loss” is not recognized until the collateral is liquidated and all collection efforts have been exhausted. Therefore, a lender relying on an existing loan policy may have to wait for title insurance coverage whereas a lender who obtains an owner’s policy will be able to seek coverage as soon as there is an adverse claim or dispute to title.
Some lenders acknowledge the benefits to obtaining an owner’s policy but do not pursue one because of the added cost. Lenders should keep in mind that obtaining a new policy is not as costly as obtaining the original loan policy. This is because the update to title is for a shorter period of time and insurers will often issue a new policy at a rate lower than the original. Because the benefits of an owner’s policy will often outweigh the additional costs, lenders should strongly consider obtaining an owner’s title insurance policy when taking title to real property.
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