Mechanics' Liens in Title Insurance

Mechanics' liens present a unique problem for title insurers. A mechanics' lien is established of record by the filing of a Notice of Lien, Claim of Lien or similar document. The priority of the lien, in many states, however, may date from the time of commencement of the work for which the lien is filed. Therefore, if work is commenced before the issuance of a title policy but the lien is filed after the date of policy the title search will not disclose and the policy will not reflect the existence of a lien that is, in fact, prior to the interest insured by the policy.

Many title policies except coverage of this risk with language that excepts to matters not shown in the public records as existing liens at the date of policy. The title insurance company may provide mechanics' lien insurance to the lender by issuance of a loan policy:

- Without exception, based upon priority of the mortgage over subsequently recorded mechanics' liens, because state law requirements are met (state law may provide that the construction mortgage has priority unless a notice of commencement is recorded before the mortgage, or a mechanics' lien is recorded before the mortgage, or visible commencement of construction occurs before the mortgage is recorded).

- With exception to unrecorded mechanics' liens (in many jurisdictions mechanics' liens have priority over or parity with the mortgage, in all or many cases, such as construction loans, or where visible commencement began before recordation of the mortgage).

- With a pending disbursement clause (which may limit priority coverage to authorized disbursements, or construction performed before a specified date). Pending disbursement clauses will vary. They may provide that the coverage increases as disbursements are made in good faith without knowledge of objections or other matters, they may include requirements for waivers and affidavits stating bills have been paid for the last draw, and they may require a continuation of the title examination.

Gap in Title Insurance

There are a number of circumstances that create a "gap" between the examination of title and Date of Policy coverage. The following are examples of a "gap":

- The recorder's office may delay in recording instruments after they are filed or presented to the recorder. The courthouse examination at time of filing does not include those previously filed instruments not yet recorded. (In many states an instrument is record notice from filing or presentation to the recorder; in some states the instrument is not record notice until later recorded by the recorder). This is "gap."

- The title company's plant may be currently posted several business days prior to date of examination. This is a "gap."

- The title company may close and file for record without down dating, extending or continuing its prior search of the records. This is a "gap."

- The title company may close the real estate transaction and disburse, but fail to file the instruments for several days or weeks. This is a "gap."

- The title company may secure execution of the documents on a loan subject to right of rescission, but may not continue the examination when the mortgage is filed for record after the three day right of rescission expires. This is a "gap."

- In each case, there will be a difference in time between the date through which the last examination of title is made and the date of record notice (by filing or recording) of the insured's deed or mortgage. This is a "gap."

The gap between the date of filing or recording of instruments and the date through which a current examination will be made varies widely. In some locations, the examination customarily is done through time or recording, with no gap in the time between the examination and Date of Policy, or is done to within a few hours of the current filing. Most common is a gap of anywhere from a few days to about two or three weeks, if the title is down dated or continued until time of closing or filing. In a few counties sprinkled throughout the U.S., the gap ranges from two to eight months. For example, in the area around Atlanta the gap can be up to four months. In Minnesota, the switch to imaging has been followed by an increase in the gap to up to four months.

Examination of Title Insurance

Generally, an examination or search is not defined by law or regulation, although some states established the period of time that must be covered by a title plant. The period of examination is commonly based upon local custom and upon specific underwriting guidelines. Local custom may be evidenced by State Bar Standards or the period required for the root of title under a marketable record title act (although these acts contain numerous exceptions).

Title insurer guidelines will vary, depending upon the location or state of the land and upon whether the land is residential or other land. Typically, title companies will rely upon "starters," such as prior title policies issued by other title companies. While title policies may be a basis for examining forward, this will not generally be true of a prior short form loan policy, unless the new policy also is a short form loan policy.

Some title insurers will allow title insurance agents to start their title searches with prior commitments, loan policies and owner's policies issued by other title insurers, while other title insurers more commonly allow title insurance agents to start searches only with prior owner's policies and, in some cases, loan policies.

On residential transactions, some title companies will allow a 1-3 bona fide deed search (going back only one to three deeds in the chain), and name check and tax search, together with review of subdivision exceptions shown on a reference file and on the plat.

Some title companies will allow a search beginning with the most recent outstanding "first" bona fide mortgage or start with the first such mortgage before the most recent deed, subject to a general exception to restrictions or minerals. The practices vary among title companies, but short searches are common on residential transactions.

In some transactions, no additional search is merited if some requirements are made or if the product is narrowly designed.

Factual information set forth as exceptions and other specific provisions of commitments and policies of other title insurers that reflect the matters affecting marketable title do not merit copyright protection.

Other Recent Competing Products with Title Insurance

Title insurance has always competed against warranties of title, title searches and title examinations, with or without abstracts of title. The advantage of title insurance over these alternatives has long been argued: a title insurer's deep pocket generally exists to pay a title insurance claim, but a deep pocket does not necessarily exist in a claim against a warrantor, searcher or examiner, although the warrantor may be financially strong or the searcher or examiner may have malpractice or errors or omissions insurance, subject to deductibles, maximum liability, and term of coverage.

More recently, two products have been offered that have competed with title insurance:

TOP (Title Option Plus). "The TOP program is embodied in three interrelated contractual agreements (furnished to Freddie Mac in lieu of a traditional title policy or attorney's title opinion)

The first contract, the Master Agreement, is a 'warranty' by NMI (Norwest Mortgage, Inc.) to Freddie Mac (and Fannie Mae) that those mortgages NMI sells to Freddie Mac (or Fannie Mae) are secured by a first lien. NMI's contractual undertakings under the Master Agreement protect Freddie Mac against any title claims or problems, including non-record risks, that may affect Freddie Mac's interest in the loan it has purchased. If a defect appears and cannot be cured, NMI agrees to repurchase the loan, if the claim cannot be otherwise resolved. (It is noted that NMI only warrants the title and priority of a lien, when the title search and title report is performed by ATI (American Land Title Company, doing business as ATI Title Company, a wholly owned subsidiary of NMI)).

The second contract is a title condition report prepared by ATI and furnished to NMI to verify that, as a matter of public record, NMI's mortgage is secured by a first lien. ATI remains liable for any on-record defects that are missed in the title search, while NMI assumes the risk of off-record defects. The third contractual arrangement is The Guarantee Agreement from Norwest (Norwest Corporation, the bank holding company which owns NMI) to Freddie Mac under which Norwest guarantees NMI's title-related obligations to Freddie Mac." TOP was generally, but not universally, determined to be title insurance transacted, sold, or marketed in violation of applicable insurance laws in most, but not all, jurisdictions that administratively or judicially considered it. The issue of the specific TOP product has apparently been rendered moot by formation in 1998 of a joint venture between First American Financial Corporation and Norwest Mortgage, Inc., involving ATI Title Company and two other subsidiaries, pursuant to which ATI Title Company will issue title insurance and will no longer offer the TOP product.

Mortgage Impairment Insurance. This type of insurance provided to a lender typically insures the lender against failure by the lender to have sufficient title insurance, not due to the lender's willful fault. Some of these policies also insure matters that may be asserted to be title insurance.

For example, some polices may insure against loss resulting from (1) failure to pay real estate taxes; (2) error, neglect, omission or breach of duty in actual performance or failure to perform activities, including obtaining a tax bill showing ownership, review of credit bureau report showing liens and property address, or owner's affidavit relating to title or impairment by discovery of a previously unknown property interest in the collateral; (3) perfection of a second lien mortgage could not be obtained despite timely filing of the mortgage; (4) loss by reason of defective title, if the insured required title insurance; (5) impairment of lien, due to an unknown interest, if the lender required a tax bill showing ownership, a credit report showing liens and property address, and/or an owner's affidavit of title, and presented the (second) mortgage for recording.

Typically this type of insurance is offered on junior home equity loans. It is sometimes offered on a surplus line basis. Some of the policies are written as master policies with a stated maximum limit of liability. Some policies are called equity or lending activities policies. This coverage should be contrasted with collateral protection insurance, which provides insurance because of a consumer's failure to provide evidence of insurance, and which excludes title insurance.

Overview of Standard Title Insurance Forms (part 3)

The policies may be modified to provide additional coverages by three methods: (1) Schedule B affirmative insurance, or (2) endorsement, or (3) deletion of printed standard exceptions. Schedule B affirmative language usually consists of a specific insurance provision following and related to a specific exception. It is more a product of East Coast jurisdictions (although promulgated "express insurance" is available in Texas). Endorsements may provide insurance, as to a specific exception, changes in the Exclusions or Conditions and Stipulations, or, more generally, additional insurance.

The policies provide "extended coverage" if the more common standard exceptions are deleted. Those exceptions are typically the following:

(a) Rights or claims of parties in possession not shown by the public records.

(b) Easements, or claims of easements, not shown by the public records.

(c) Encroachments, overlaps, boundary line disputes, or other matters which would be disclosed by an accurate survey and inspection of the subject property.

(d) Any lien, or right to a lien, for services, labor, or material hereto or hereafter furnished, imposed by law and not shown by the public records.

(e) Taxes or special assessments which are not shown as existing liens by the public records.

Assignments of rents may be described in a Loan Policy in several ways: in Schedule A with the description of the insured mortgage, in Schedule B-I (generally not acceptable to the insured), in Schedule B-II (as subordinate), or in a "Note." The assignment may be subject of a CLTA Endorsement 104.6.

An attorney may be guilty of negligence in not recommending adequate title review or title insurance. Given this duty, the attorney advising a purchaser is likely guilty of malpractice if the attorney does not recommend:

(1) a title insurance policy, and

(2) extended coverage.

If the more extensive coverages of the ALTA Homeowner's Policy of Title Insurance are reasonably available, it would seemingly be negligent if the attorney failed to recommend the advantages of this policy.

Overview of Standard Title Insurance Forms (part 2)

The 1970 Owner's Policy (Form A), which did not insure as to unmarketability, is no longer issued. The 1970 Owner's Policy (Form B), which insures as to unmarketability of title, and the 1970 Loan Policy replaced earlier versions and are still available in most states. These forms were revised in 1984 to modify the governmental regulation exclusion, by providing that the exclusion did not apply if a notice of defect, lien or encumbrance was recorded in the local real property records.

The most current ALTA forms are the ALTA Owner's Policy (10-17-92) and ALTA Loan Policy (10-17-92). These forms replaced the recent "1990" ALTA policies and narrowed the creditors' rights exclusion by substitution of the "New York"creditors' rights language. The earlier ''1987" policies contained no express creditor's rights exclusion. Effective October 3, 1991, the "pre 1990 policies" (e.g., 1970 policies and 1970 revised 1984 policies) are no longer official ALTA forms (except for the Residential Owner's Policy), although they remain widely available upon request.

The 1992 policies are available throughout most of the United States; they are issued in modified form in some states. In Arkansas, Florida, Kansas, Missouri, New Jersey, and South Dakota (and in Alabama a notice is required, and in Kentucky and some other locations, arbitration is not enforceable) the arbitration clause is modified or deleted to remove compulsory arbitration; in Florida the coinsurance clause in the Owner's Policy is deleted; and in Texas a number of changes are made (e.g., modified mechanic's lien insuring provision; insurance of good and indefeasible title instead of marketable title; definition of access; slightly modified claims, creditor's rights, and arbitration provisions).

The 1970 policies remain available in most jurisdictions, but are not available in Michigan, New Jersey, New Mexico, New York, Pennsylvania, and Texas.

Overview of Standard Title Insurance Forms (part 1)

The predominant title insurance forms are the American Land Title Association (ALTA) policies. The American Land Title Association has developed standardized title insurance policies since 1929. Standardization of forms occurred because of lender demand for predictable forms that would not need to be read and negotiated. In 1929 the association developed a loan policy. In 1959 the ALTA adopted an owner's policy. The ALTA adopted new uniform title insurance policies in 1962:

The ALTA Owner's Policy Standard Form A 1962. This policy included insurance against a lack of right of access but did not insure against unmarketability of the title and excluded refusal of any person to purchase lease or lend money. The policy included a coinsurance provision.

The ALTA Owner's Policy Standard Form B 1962. This policy also insured against unmarketability of the title.

The ALTA Standard Loan Policy, Revised Coverage 1962. This policy included insurance against unmarketability of the title, lack of right of access and "any statutory lien for labor or material which has now gained or hereafter may gain priority over the lien of said mortgage upon said estate." The policy excluded coverage of mechanic's liens arising from construction on the land contracted for and commenced after Date of Policy and not financed in whole or in part by mortgage proceeds which the insured had advanced or was presently obligated to advance.

The ALTA Loan Policy, Additional Coverage 1962. This policy also insured against assessments for street improvements under construction or completed at the Date of Policy which have "now gained on hereafter may gain" priority over the mortgage. This coverage is now offered by ALTA Endorsement No. 2 and is a standard provision in the CLTA filing of the ALTA Loan Policy.

Single Risk Limits of Title Insurance

Statutory single risk limitations also vary, but frequently are approximately one-half of surplus and reserves, a large amount in comparison to other lines of insurance. The justification for this approach lies in the small amount of capital invested in the industry and the sparse "likelihood" of a complete loss. The likelihood that loss and defense costs will equal or exceed policy limits is considered very small, since claims on policies probably occur between one in 500 to 1000 policies issued (typically closer to the latter) and loss and expense equal or exceeding policy limits probably occurs in about 1-3% of those claims.

Given the additional review by various counsel on commercial transactions, this likelihood should be lower on those transactions. The aggregate capacity of the title insurance industry to insure a single risk frequently is less than $1,000,000,000, although both the industry surplus and the industry statutory premium reserves exceed this amount. Net liquid assets available to pay claims do not always justify the large title policy retention limits by title insurers.

Because of the disparity between available net liquid assets and statutory limits on risk retention, some insureds will impose their own formulas or checklists to determine the allowable risk retention by a title insurer.

Overview of Title Insurance

Title insurance typically is defined as insurance against defects in, or liens or encumbrances on the title. In many jurisdictions, title insurers may insure title to real estate, while in some, they also may insure title to personal property, or proper execution of notes or other obligations. Most states prohibit title insurers from guaranteeing debts or other obligations, or prohibit title insurers from undertaking other types of insurance. These prohibitions were enacted in response to the failures in the 1930s of title insurance companies because they guaranteed mortgage loans.

Viewed from one perspective, title insurance may be considered a misnomer: the policy is an attempt to reconcile abstracting information and an insurance product but does not, by its express terms, represent the status of title. The most commonly used title insurance contracts, the American Land Title Association (ALTA) policies, do not purport to represent the condition of title. Rather, they are indemnity contracts against actual monetary loss because of title matters, such as defects, liens, and encumbrances. Nevertheless, there has been a widespread conflict over the issue of whether the contract terms of indemnity generally prevail, or whether extra contractual liability for negligence will be recognized.

This issue may be restated: shall the contractual limitation on damages (including the stated limit of insurance) prevail based on the contract, charge of premium for stated insurance, and dedication of statutory premium reserve; or shall the "expectation" of the insured result in liability for consequential damages, without an absolute limit on loss. In approximately one-half of the states no recognized answer (statutory or case law) exists; in the remaining jurisdictions, opinion is roughly split in half, with some states rejecting liability for negligence under the policy and/or commitment (or binder or preliminary report) and other states allowing the cause of action.

Whatever the result of that debate, title insurance is often described as "unique." It constitutes an attempt at risk avoidance, with a substantial part of title insurance cost generally allocated to search, evaluation/examination, or clearing underwriting objections. Consequently, losses and attorney's fees incurred by the major title insurers have recently been between 3% and 7% of their total operating income. State law often codifies this risk avoidance approach: A title examination of some sort is required by statute in a number of states; similarly, many states require application of sound underwriting practices as a condition to issuance of the policy.

Title Insurance

The bank requires that you buy title insurance when you borrow money from the bank to buy a piece of property The title insurance makes sure that whoever sells you the property has the legal right to do so. The bank wants to protect its equity in the poverty while you are paying down the mortgage.

Thus, when you close on a house typically must buy title insurance from a title insurance company for about for every $1,000 of coverage. The minimum the bank requires is equal to the amount of equity the bank has in your property. That covers bank's risk.

But what about your financial risk, which is equal to the equity you have in the property? For this you can purchase owner's title insurance for about $3.50 per $1,000 of coverage. If a flaw in the title comes to light some 20 years after you've bought your home. the title insurance company forks over the money, even if the value of your property has risen ten times.

Since you only buy this insurance one time when you purchase your propertyit can be very good deal for a lot of protection over a lot of years. On a $120,000 home, you would spend $420 only once for private title insurance that covers your spouse as long as you own it.

History of Title Insurance

The need for title insurance arose historically from the fact that traditional methods of conveying real property did not provide adequate safety to the parties involved. Until a century ago, transferring title to real property was handled primarily by conveyancers, who were responsible for all aspects of the transaction. The conveyancer conducted a title search to determine the ownership rights of the seller and any other rights, interests, liens or encumbrances that might exist with respect to the property, and, based on its search, provide a signed abstract (or description) of the status of the title. Although the conveyancer was generally not a lawyer, that individual was recognized as an authority on real estate law. The origin of title insurance is directly traceable to the limited protection that the work of such a conveyancer provided to the purchaser of real property.

In 1868, the celebrated case of Watson v. Muirhead (57 Pa. 161) was filed in Pennsylvania. In that case, Muirhead, a conveyancer, had searched and abstracted a title for Watson, the purchaser of a parcel of real property. In good faith and after consulting an attorney, Muirhead chose to ignore certain recorded judgments and to report the title as good and unencumbered. On the basis of Muirhead's abstract, Watson went ahead with the purchase, but was subsequently presented with, and require to satisfy, the liens that Muirhead had concluded were not impairments to title. Watson sued Muirhead to recover his losses, but the Pennsylvania Supreme Court ruled that there was no negligence on the conveyancer's part and dismissed the case. Watson, an innocent purchaser who had suffered financial damages because of the encumbrances on his title, had no recourse.

The decision of Watson v. Muirhead demonstrated clearly that the existing conveyancing system could not provide total assurance to purchasers of real property that they would be safe and secure in their ownership. As a result of that decision, the Pennsylvania legislature shortly thereafter passed an act "to provide for the incorporation and regulation of title insurance companies." The first title company was founded in Philadelphia in 1876.

This new type of insurance (called "title insurance"), addressed the concerns raised in Watson v. Muirhead by providing:

1. Responsibility without proof of negligence;

2. Financial protection through a reduction of the risk of insolvency; and

3. The assumption of risks beyond those disclosed in the public records (for which the abstractor was not liable).

Since the late 1800s, the title insurance industry has grown to where it now is an essential component in an overwhelming majority of real estate transactions in this country. The services provided by the title insurers may vary somewhat from one area of the country to the other, reflecting the different laws, customs and procedures of the various states and counties throughout the nation. But the essential purpose of these services is the same - to assist all of the parties in real estate transactions by ensuring that the acquisition or transfer of an interest in real estate can be effected with a maximum degree of efficiency, security and safety.