Title Insurance 101

Whether you are buying a fix/flip, rental property, buying a mortgage note or buying a house for your family, part of the due diligence should be obtaining a Title Insurance Policy.  So, what is title insurance and how does it work?

What is Title Insurance?

Title insurance is a form of insurance that protects against possible financial loss from defects in a title to a property. The most common type of title insurance is lender’s title insurance, to protect the lender. The other type is owner’s title insurance, which protects the buyer’s equity in the property. The one-time fee paid for title insurance covers administrative fees for thorough searches of title data (county, city, etc.) to protect against claims for past occurrences.

Clear title is necessary for any real estate transaction. Title companies must do a search to check for claims or liens of any kind against them before the insurance can be issued.  A title search is an examination of public records to determine and confirm a property’s legal ownership and to find out whether there are any claims on the property. Code violations, state tax liens, judgements are examples of blemishes that can cloud the title. 

Title Insurance Protection

Title insurance protects both lenders and buyers against loss or damage occurring from liens, encumbrances, or defects in the title or actual ownership of a property. Common claims filed against a title are mortgage liens, unpaid taxes, utility liens, judgements, unpaid state, or federal tax, etc. Title insurance protects against claims for past occurrences (unlike car insurance that protects against future occurrences).  Also, title insurance policy usually covers many issues like incorrect signatures, documents with incorrect reference numbers, ownership by another party, restrictive covenants, judgments against property and so on.

As mentioned, there are two types of title insurance: lender’s title insurance and owner’s title insurance. Most lenders require the borrower to purchase a lender’s title insurance policy to protect the lender in the event the seller was not legally able to transfer the title of ownership rights. A lender’s policy only protects the lender against loss. An issued policy signifies the completion of a title search, offering some assurance to the lender (or note buyer). The approximate cost of a title insurance policy is about 0.5% to 1% of the purchase price when you buy a lender’s policy and a homeowner’s policy together.  But it varies by county, state, and project.

Don’t Make this Costly Mistake

Many investors want to skip this part of the process, but this can be a costly mistake.  For example, I had a property where the initial title search did not find a code violation lien.  It was a broken window and initially was only around $150.  However, the prior owner did not take care to satisfy this lien and 2 years later that lien was now $36,500.  How?  The violation was $50/day until paid.   Skipping this part of due diligence and not getting title insurance exposes you to significant risk in the event a title defect is present. Especially when buying distressed properties or mortgage notes it becomes even more important since these properties inherently have a higher number of outstanding issues. In summary, always purchasing lenders and/or owners title insurance to protect yourself against unforeseen claims against the title.