Title insurance vs. alternatives: Considering the claims process
March 7, 2023 5:00 AM
The possibility of lowering upfront costs for borrowers by using title insurance alternatives , which are now more widely accepted by major secondary market participants, has become more of an option for lenders and borrowers, but there's more to consider than the initial price tag.
The point of traditional title insurance coverage or an attorney title opinion letter is to protect ownership of the property, so in evaluating the value proposition of each method, it's important to weigh what happens with each in the event that ownership is actually challenged.
To get a sense of this, we turned to an insurance industry group, a provider of attorney-opinion letters, and an expert familiar with the history of the business.
We found that generally claims resolution may not be easy, and decisions on what type of protection is best depend on factors that include how a counterparty's strength will hold up over time, the property involved, and what types of public policy affect the transaction.
The point of traditional title insurance coverage or an attorney title opinion letter is to protect ownership of the property, so in evaluating the value proposition of each method, it's important to weigh what happens with each in the event that ownership is actually challenged.
To get a sense of this, we turned to an insurance industry group, a provider of attorney-opinion letters, and an expert familiar with the history of the business.
We found that generally claims resolution may not be easy, and decisions on what type of protection is best depend on factors that include how a counterparty's strength will hold up over time, the property involved, and what types of public policy affect the transaction.
How traditional claims work
Before getting into the differences between the two options, it's important to understand that title policies don't operate like typical homeowner or auto insurance in that they're covered by an upfront fee at closing, not an annual premium.
Neither does title coverage pay out like a homeowner or auto policy when there's a claim. Rather, the insurance goes toward contesting any competing "liens, encumbrances or defects" on the property in court so that the policyholder's ownership gets preserved.
"For most people, title insurance is really litigation insurance," said Steve Gottheim, general counsel for the American Land Title Association.
Problems that can affect ownership, like a mechanics lien from an unpaid contractor who worked on the house, will most likely be found in the initial title search and cleared up, but if they're something that turns up later instead, it'll likely take legal action to get them resolved.
Lenders and investors who buy their mortgages on the secondary market typically require borrowers to pay for a title policy or alternative. ALTA also recommends borrowers get an optional owner's policy to directly protect their rights.
Title insurers brought in $17.6 billion in premiums during the first nine months of 2022, paying out $438.7 million in claims during that time, according to ALTA.
The industry typically has a relatively low claims-paying rate. There's debate between insurers and alternative providers over whether that reflects that mistakes that occur after the initial search are rare, or if it's due to prudent fiscal management by an insurer, or a potential slowness to pay claims due to the preference for litigation in the industry, or a combination thereof.
"Title insurance does a lot of good things. The principal drawback is that, in my experience, …frequently, when you have a claim, you will get into very contentious…litigation…which sort of is a negative…," Hosack said "I'm not saying title insurance should pay all claims, but I'm just saying I think it would be nice if it paid a few more."
Title insurance claims were up during the first nine months of last year when compared to the same period a year earlier, when it paid $352.5 million, even though its premiums were down 7%.
Neither does title coverage pay out like a homeowner or auto policy when there's a claim. Rather, the insurance goes toward contesting any competing "liens, encumbrances or defects" on the property in court so that the policyholder's ownership gets preserved.
"For most people, title insurance is really litigation insurance," said Steve Gottheim, general counsel for the American Land Title Association.
Problems that can affect ownership, like a mechanics lien from an unpaid contractor who worked on the house, will most likely be found in the initial title search and cleared up, but if they're something that turns up later instead, it'll likely take legal action to get them resolved.
Lenders and investors who buy their mortgages on the secondary market typically require borrowers to pay for a title policy or alternative. ALTA also recommends borrowers get an optional owner's policy to directly protect their rights.
Title insurers brought in $17.6 billion in premiums during the first nine months of 2022, paying out $438.7 million in claims during that time, according to ALTA.
The industry typically has a relatively low claims-paying rate. There's debate between insurers and alternative providers over whether that reflects that mistakes that occur after the initial search are rare, or if it's due to prudent fiscal management by an insurer, or a potential slowness to pay claims due to the preference for litigation in the industry, or a combination thereof.
"Title insurance does a lot of good things. The principal drawback is that, in my experience, …frequently, when you have a claim, you will get into very contentious…litigation…which sort of is a negative…," Hosack said "I'm not saying title insurance should pay all claims, but I'm just saying I think it would be nice if it paid a few more."
Title insurance claims were up during the first nine months of last year when compared to the same period a year earlier, when it paid $352.5 million, even though its premiums were down 7%.
Title vs. E&O insurance
One might think the question of comparing title insurance to alternatives would mean there's a claim process for the former, but not the latter, but providers of attorney opinion letters say they have a form of coverage too.
Rather than title insurance per se, providers of opinion letters usually have errors and omissions coverage, which ALTAhas been critical of in some forms.
Voxtur, which works with a network of attorneys to provide opinion letters, said the type of coverage ALTA has reviewed is dissimilar to its errors and omissions policy, which it said offers risk management similar to title insurance and has a track record of use with home equity loans.
"The idea behind it being that if there is a loss of any kind, so whether it comes from … an error made by the attorney, or anybody else involved in the process, that would be covered, as long as it's demonstrable," said Stacy Mestayer, chief legal officer at Voxtur.
Whether or not a claim is demonstrable is something that traditional title insurance also has taken into account and can be complex, according to a 2015 report by John Hosack and Jason Goldstein, attorneys at Buchalter, which the former said in a recent interview remains true today.
"If a claim is made on the policy, it is not uncommon for the title insurer to send the insured a request for a number of documents, which it wants to review (for the first time) before it makes a determination as to whether it can approve or deny insurance coverage," they said.
It's unclear how different the E&O claim process might be in conjunction with mortgage title alternatives in their current form given they are just getting off the ground, but it bears watching.
Rather than title insurance per se, providers of opinion letters usually have errors and omissions coverage, which ALTA
Voxtur, which works with a network of attorneys to provide opinion letters, said the type of coverage ALTA has reviewed is dissimilar to its errors and omissions policy, which it said offers risk management similar to title insurance and has a track record of use with home equity loans.
"The idea behind it being that if there is a loss of any kind, so whether it comes from … an error made by the attorney, or anybody else involved in the process, that would be covered, as long as it's demonstrable," said Stacy Mestayer, chief legal officer at Voxtur.
Whether or not a claim is demonstrable is something that traditional title insurance also has taken into account and can be complex, according to a 2015 report by John Hosack and Jason Goldstein, attorneys at Buchalter, which the former said in a recent interview remains true today.
"If a claim is made on the policy, it is not uncommon for the title insurer to send the insured a request for a number of documents, which it wants to review (for the first time) before it makes a determination as to whether it can approve or deny insurance coverage," they said.
It's unclear how different the E&O claim process might be in conjunction with mortgage title alternatives in their current form given they are just getting off the ground, but it bears watching.
Counterparty differences
ALTA says insurers, which partner with title agents to ensure upfront lien searches get done and covered, are sounder counterparties than providers of attorney opinion letters. Insurers are held to certain financial standards by state regulators.
Thedownturn in originations has been a challenge for title insurers and providers of alternatives. This is important to consider because if there's a title problem, it could be tougher to get assistance from a distressed counterparty.
Title insurance revenues for Fitch-rated companies were down 19% at year-end 2022 and the aggregate operating margin fell to 12% from 17% in 2021, according to a March 2 report.
However, 2022 still turned out to be title insurers' fourth-best year in the past decade.
The title insurance industry'scombined ratio has been below 100% since late 2020 through at least the third quarter of 2022, according to the National Association of Insurance Commissioners and CEIC Data. That indicates that it's been profitable on average, although one of the six public companies within its ranks, Doma, is a newer company that has not yet been profitable. The combined ratio for the industry as a whole did rise a little early last year, leveling out between 98% and 99%.
Voxtur Analytics's corporate parent is a publicly traded Canadian-owned company that hasmultiple real estate and technology business lines , but generally title insurance alternative firms and the lawyers who provide the opinions are private companies.
Like title insurers, Voxtur experienced some financial challenges linked to the mortgage industry's distress, but the latest quarterly numbers available at deadline (Q3 2022) showed more than 40% year-over-year revenue growth based on growth in software as a service revenue from valuation technology, and cuts to operating expenses. The expanded E&O for its title insurance alternatives hasn't been around long enough to have a claims-paying track record.
When under stress during periods like the Great Recession, title-related companies have undergone consolidation with acquirers absorbing distressed firms' customers, Hosack said.
A counterparty's status with secondary market buyers is important to watch because they may need to be on "approved" lists, and government-sponsored enterprises Fannie Mae and Freddie Mac can levy expensive mortgage repurchase demands for any breach of loan agreements they have with lenders.
The
Title insurance revenues for Fitch-rated companies were down 19% at year-end 2022 and the aggregate operating margin fell to 12% from 17% in 2021, according to a March 2 report.
However, 2022 still turned out to be title insurers' fourth-best year in the past decade.
The title insurance industry's
Voxtur Analytics's corporate parent is a publicly traded Canadian-owned company that has
Like title insurers, Voxtur experienced some financial challenges linked to the mortgage industry's distress, but the latest quarterly numbers available at deadline (Q3 2022) showed more than 40% year-over-year revenue growth based on growth in software as a service revenue from valuation technology, and cuts to operating expenses. The expanded E&O for its title insurance alternatives hasn't been around long enough to have a claims-paying track record.
When under stress during periods like the Great Recession, title-related companies have undergone consolidation with acquirers absorbing distressed firms' customers, Hosack said.
A counterparty's status with secondary market buyers is important to watch because they may need to be on "approved" lists, and government-sponsored enterprises Fannie Mae and Freddie Mac can levy expensive mortgage repurchase demands for any breach of loan agreements they have with lenders.
Policy and politics
Analysts expect that current title-insurance alternatives could run into some regulatory hurdles, as one form of it did in the past after some heavy opposition from traditional players. In that case, state insurance regulators intervened. Today's providers of alternatives think it's less likely given E&O is an established insurance product.
And the GSEs do appear to be continuing to push the use of title insurance alternatives forward.
At the time of this writing, there was a rumor ina Politico article that new details had emerged about a pilot at Fannie Mae.
Fannie had previously indicated that it would be engaging in an effort to reduce upfront title costs for lower-income borrowers in ways that could make lendingmore racially equitable , and now it appears that pilot would involve new intervention when problems occur, according to the Politico article and related analysis by Keefe, Bruyette & Woods.
"Under the potential pilot program, if a title-related issue was discovered… the mortgage company would request resolution from Fannie Mae," said Bose George, Thomas McJoynt-Griffith, Michael Smyth and Alexander Bond, researchers at KBW, in a March 5 report.
The government-sponsored enterprise did not immediately respond to an inquiry about the details of the program.
While Fannie might test the concept, the researchers project that the pilot and any outcome from it will be narrow in scope.
"We believe there are meaningful impediments…as we saw with earlier pilots such asthe mortgage insurance pilot ," the researchers said. "There is usually significant political opposition to 'mission creep' when GSEs enter areas outside their core business of guaranteeing mortgages…We think the impact is likely to be limited."
And the GSEs do appear to be continuing to push the use of title insurance alternatives forward.
At the time of this writing, there was a rumor in
Fannie had previously indicated that it would be engaging in an effort to reduce upfront title costs for lower-income borrowers in ways that could make lending
"Under the potential pilot program, if a title-related issue was discovered… the mortgage company would request resolution from Fannie Mae," said Bose George, Thomas McJoynt-Griffith, Michael Smyth and Alexander Bond, researchers at KBW, in a March 5 report.
The government-sponsored enterprise did not immediately respond to an inquiry about the details of the program.
While Fannie might test the concept, the researchers project that the pilot and any outcome from it will be narrow in scope.
"We believe there are meaningful impediments…as we saw with earlier pilots such as
Location, location, location
With key secondary-market buyers allowing some flexibility to use an alternative, it may make sense to experiment with it. One provider, iTitleTransfer, has suggested that could be done by using a property risk score to determine whether insurance is necessary for a particular mortgage, or not.
Oft-cited examples of when the type of property makes a difference include one in a rural area with little buying and selling activity compared to a location in a busy city that has a hot real estate market. The chances of lien complications in the city might be higher. The risk a particular property has also could be more idiosyncratic, and less specific to a region.
But often jurisdictional rules may also factor into decisions about title insurance, a longstanding example being Iowa. The only title insurance available there is through the state.
Much has been made of the fact that Iowa's upfront rates are lower than elsewhere, but to date other states have not adopted the same model.The claims process is substantially similar to traditional title insurance.
Other examples of jurisdictional rules one might want to weigh when sizing up the amount of title risk and whether insurance or an alternative might be the best route includeOhio , which has a particular statute of limitations on legal malpractice claims related to title opinions.
Oft-cited examples of when the type of property makes a difference include one in a rural area with little buying and selling activity compared to a location in a busy city that has a hot real estate market. The chances of lien complications in the city might be higher. The risk a particular property has also could be more idiosyncratic, and less specific to a region.
But often jurisdictional rules may also factor into decisions about title insurance, a longstanding example being Iowa. The only title insurance available there is through the state.
Much has been made of the fact that Iowa's upfront rates are lower than elsewhere, but to date other states have not adopted the same model.The claims process is substantially similar to traditional title insurance.
Other examples of jurisdictional rules one might want to weigh when sizing up the amount of title risk and whether insurance or an alternative might be the best route include
Some risks may not be discovered, but are not necessarily covered
Utah recently became the first state to adopt legislation banning so-called Non-Title Recorded Agreements for Personal Services, which some real estate brokers added to get the exclusive rights to sell properties long-term in exchange for a fee, according to ALTA. Other states may follow.
"If an NTRAP shows up in the title search, the title company will work to get it released before closing. It is usually not covered under the seller's existing policy but the buyer's lender will insist on it being released before issuing the mortgage," the trade group said.
"If an NTRAP shows up in the title search, the title company will work to get it released before closing. It is usually not covered under the seller's existing policy but the buyer's lender will insist on it being released before issuing the mortgage," the trade group said.
