Title Insurance: Avoid Trouble in Commercial Real Estate Deals
June 03, 2007
By Robert Grubb
At commercial real estate closings, most buyers and sellers sign papers with little thought to title insurance. After all, sellers know what they are selling, and buyers are aware of what they want to buy. Yet the reality is that neither party is usually knowledgeable of exactly what is being transferred. Title insurance fills the knowledge gap before the completion of the transaction – providing speed and liquidity to the market.
Title issues often allow those outside of the real estate trans- action to ultimately make some legal claim to the property. "Lost" heirs, rior potential buyers, divorced spouses, a wide range of easements, mechanics liens, etc., can and do call into question a real estate owner's rights to the use and disposition of real estate. "Clear" title on property is not possible to obtain.
Title insurance is the tool that transfers the potential risks of title problems to the insurer, protecting parties to the transaction. Title insurance is distinctly different from other insurance in significant ways:
Purchase. Title insurance is purchased once to protect the buyer and any mortgag lender for as long as the buyer owns the property – one premium, one time, covers the parties. The mortgage lender is covered for as long as the mortgage is outstanding.
Coverage. Unlike most insurance, title insurance covers the past. The "underwriting" process attempts to eliminate any potential ownership problem before the uyer takes title to property.
Potential problems ("defects") on a property are identified during the commitment process. Once identified, they are resolved before property transfers to the buyer.
The process – search, examination and resolution of problems – results in higher underwriting expenses and lower claim expenses compared with other insurance. The industry spends up to 18 times more in the preventative process of underwriting than in claims.
Process. Not all information is known at the time of a search, so title insurance is provided to protect against claims unknown at closing.
Title insurance provides real protection to owners, lenders and even to the liquidity of the financial markets because:
1. The buyer is protected from the cost of defending against, and investigating the intricacies of, a host of potential claims, and then from the time and resources necessary to resolve them, often with lengthy litigation.
2. The buyer's lender is similarly protected. With risk transferred, the sales of mortgages to the secondary market are facilitated, providing additional safety to the secondary market, and new liquidity for lenders for additional loans.
3. The seller benefits from title work performed, reducing the seller's risk of someone later seeking compensation for undisclosed problems.
Without title insurance, sellers and buyers would need an attorney to search, examine and clean up title prior to the sale of property, then reserve part of the sale proceeds for future title problems. Calculation of such reserves, access for claims, and recourse in case of a shortfall would all introduce risk and uncertainty into the market.
Though title insurance is not mandatory when buyers pay by cash, it is usually required by lenders for the amount of the mortgage. It is clearly not worth the risk to go "naked" on the equity in a commercial real estate deal. Obtaining an owner's policy at the same time as the lender costs little additional premium and protects owners for their full purchase price for as long as they own the property. A one-time premium transferring title risks to insurers makes economic sense and offers peace of mind to owners knowing they have a skilled "partner" to intervene on their behalf in the case of any claim.
Robert Grubb is CEO of Alliant National Title Insurance, a title insurance underwriter based in Longmont. Reach him at 303.682.9800 ext. 300, or via e-mail at firstname.lastname@example.org.
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