Before the ideation of title insurance, purchasing real estate in the United States was a risky endeavor. In 1876, the first title insurance company was formed and its mission was to protect “the purchasers of real estate and mortgages against losses from defective title, liens and encumbrances.”
Prior to the existence of title insurance, property sellers would establish their right of title to a property based on scarce public records. The title would need to be manually cleared of any liens that were discovered or encumbrances that prevented them from selling the home. With limited resources and no insurance backing, the risk of a new property buyer losing a property due to unresolved issues was still significant. Additionally, if an unresolved issue arose, the harmed buyer or lender would have to collect damages from the seller for their errors, which was difficult and costly.
What Does Title Insurance Protect Against?
Title insurance provides protections for both the property buyer and also the mortgage lender that is involved in a real estate transaction. Examples of risks covered by title insurance include:
- Unpaid taxes
- Forgeries or fraud
- Undisclosed or missing heirs
- Unpaid judgments or liens
- Undisclosed second mortgages
- Mistakes in recording legal documents
Lender’s Policy vs Owner's Policy
The mortgage lender requires the homebuyer to pay for lender’s title insurance coverage when purchasing a home via a mortgage. If you buy a property with cash, a lender policy is not required since there is not bank involved.
With a Lender's policy, the mortgage company is protected against potential losses equivalent to the total loan value. Owner’s title insurance is optional and is paid as a one-time fee at closing.
Who Pays for Title Insurance?
The lender's policy and the owner's title policy are both paid for by the home buyer.
The owner's title policy protects the homebuyer from claims against the title that predate the purchase of the property. If you encountered any legal fees defending your title to your newly purchased land, those fees would be covered by Owner's title insurance.
Do You Need an Owner's Policy?
Title "flaws" are generally found during the title search by the closing attorney or title company, which makes subsequent claims rare. Which makes the purchase of title insurance more of a "peace of mind" policy.
Despite this, most homebuyers do end up purchasing title insurance from large title underwriters that partner with their closing attorney. Examples of common underwriters include First American, Fidelity National, Old Republic and Stewart Title.
How about title insurance for a newly built house? The most common scenario when a homebuyer opts to not purchase an owner's title policy is with a new construction property in a large development. That's because large builders like Lennar, Pulte and DR Horton typically de-risk much of the boundary dispute issues that may be surfaced and also rarely use subcontractors - which are one of the main source of liens.
Lowering the Price of Owner's Title Insurance
If you're considering declining coverage due to the cost, you might instead opt for a lower cover tier in order to save money.
For example, several of the large title insurance underwriters offer two or more tiers of covered - often referred to as "Basic" or "Enhanced" policies. You can think of this as car insurance or healthcare insurance. Advanced covered results in a higher premium when you buy health or auto insurance. The same can be said for Owner's title insurance.
After you go under contract on the purchase of a home, but prior to the closing, ask the title company or closing attorney what options exist. Occasionally, the closing attorney or title company will discourage you to buying the lower tier coverage. This happens for two reasons: 1) This is a revenue channel for them. By accepting a lower coverage tier, they make less money on your closing. 2) It's safer for them (and you) to buy the higher tier coverage.
Buying a home involves a lot of different costs - including taxes, lender fees, settlement charges and various forms of insurance. Talk with your agent and closing attorney about different options for title insurance and find the right balance of peace of mind and cost savings.