What Is Title Insurance and Why Do You Need It?

Posted on December 16, 2024December 30, 2024 by Jason Somers

If you’re in the market to buy a home, your lender will likely require you to purchase insurance before the sale concludes. The title you eventually receive confirms that you now own the property and that ownership rights have been transferred to you. It’s possible, however, for financial or legal problems to arise that might complicate the sale. For example, another party could claim ownership of the property.

You can protect against title issues by obtaining insurance. A comprehensive insurance policy can protect yourself and your lender from the financial loss that can occur when resolving title defects. The most common type is lender’s insurance, which is purchased by the borrower to effectively protect the lender. However, the owner of a property may also buy insurance. In this guide, you’ll learn why this form of insurance is necessary in most real estate transactions.

Key Takeaways

This insurance is designed to protect buyers and lenders from the potential for financial loss because of defects in a title. There are many types of claims that can be filed against a title, which include liens, conflicting wills, and back taxes.

If you buy this type of insurance policy, it will come with a one-time fee that covers the administrative costs associated with comprehensive searches of title data. If you’re involved in a real estate transaction, you must receive a clear title to be confident that the property doesn’t consist of any liens or encumbrances. The policy you obtain should cover numerous risks, which include everything from incorrect ownership and flawed records to falsified documents.

Understanding Title Insurance

If you want to successfully complete a real estate transaction, the title must be clear. Title companies are tasked with performing a search on titles to look for liens or claims that have been made against them. These companies are able to access public property records to check for these claims.

There are many ways that a title can have blemishes on it. For example, let’s say that the current owner added a room to the property but didn’t obtain a permit for the work. This can lead to a building code violation, which will be placed on the title until the issue is resolved.

As touched upon previously, the types of claims that are often filed against a title include the following:

• Conflicting wills
• Liens from easements, home equity lines of credit, or mortgage loans
• Back taxes

While traditional insurance is designed to safeguard against future events, a title policy protects against claims regarding past issues. The following hazards are usually covered by this policy:

• Inaccurate signatures on documents as well as fraud or forgery
• Ownership by another individual or entity
• Judgments or encumbrances against the property, which could involve liens or outstanding lawsuits
• Flawed records
• Restrictive covenants, such as an unrecorded easement

During a private transaction, it’s possible to use a warranty of title instead of insurance. This warranty provides a guarantee to the buyer that the seller can transfer ownership and that no one else can claim the property.

Types of Title Insurance

The two types of insurance that can be purchased during a real estate transaction include an owner’s title policy and a lender’s policy. Both options offer protection against various title issues.

Lender’s Title Insurance

This form of insurance is always required when a borrower applies for a mortgage loan. Your lender won’t issue a loan until you make this purchase. Most title companies issue this insurance after performing a title search.

The purpose of lender’s insurance is to protect them against title issues if the seller isn’t able to transfer ownership rights. The lender will be covered up to the total loan amount. Keep in mind, however, that coverage only extends to the lender and not the buyer.

Owner’s Title Insurance

Owner’s title insurance is optional but highly useful. It protects buyers against potential title defects and hazards. The types of risks that a home buyer will receive coverage for include the following:

• Forgery or fraud when it comes to property ownership
• Outstanding liens, encumbrances, or lawsuits that eliminate the seller’s ownership claim to the property
• Conflicting ownership claims, which can include complications with a will
• Flawed or erroneous public records, which might take the form of an incorrect signature
• Undisclosed agreements with other people or entities that effectively reduce or limit how the property can be used

Even though this insurance policy isn’t required, it’s highly recommended that you obtain one during a real estate transaction. While title companies perform comprehensive searches to identify any potential defects, they could miss something, which is why having an insurance policy on hand is a good idea.

Extended Policies

When you purchase this type of insurance, consider obtaining an extended policy. This type of policy provides additional coverage options for owners. The policy effectively protects against issues that aren’t part of the public record. For example, it should cover any rights, claims, facts, or interests that aren’t detailed in public records but might be identified by inspecting the property.

This coverage also extends to liens or easements that aren’t shown in the public records. If a land survey would help the owner detect encumbrances, violations, and encroachments on the property, these issues should be covered with an extended insurance policy.

The costs associated with an extended policy depend on the company that offers it. In most cases, you’ll need to pay around 25% more for an extended policy, which will cover the charges that occur when performing a land survey and analyzing the results. A property inspection may also take place.

Purchasing Title Insurance

To buy insurance, the process must be initiated by escrow or a closing agent. This step occurs after the purchase agreement is signed by both parties. Keep in mind that there are four main insurance underwriters in the U.S., which include everything from Stewart Title Guaranty Co. to Fidelity National Financial Inc. You’ll also have access to regional insurance companies that you can use during this process.

The price you’ll end up paying for an insurance policy can range from $500 to $3,500 depending on where you live and your home’s purchase price. The insurance provider you select can also determine how much you pay for the policy.

In many cases, an owner’s policy and a lender’s policy must be purchased at the same time to make sure that all parties are protected from title issues. As mentioned previously, these policies come with a one-time fee instead of a monthly payment. You’ll pay the one-time fee at closing. Based on regulations in the Real Estate Settlement Procedures Act (RESPA), sellers are prohibited from mandating that buyers purchase insurance from a specific carrier.

When you start searching for an insurance company to buy from, you’ll likely receive recommendations from your real estate agent or lender. While these recommendations might be sound, it’s highly recommended that you do some comparison shopping. These policies come with varying costs and coverage, which is why you should do your due diligence before you purchase one.

Risks of Not Having Title Insurance

Lenders often require insurance because of the risks that occur when you don’t have a policy. Without this form of insurance, all transacting parties will be at considerable risk if a title defect is detected.

For example, let’s say that a buyer purchases a home without obtaining an insurance policy. Once the sale closes, they might discover that the previous owner left them with unpaid taxes. Without insurance, the buyer will need to take on the financial burden of repaying the outstanding taxes. Otherwise, they could lose their home. Insurance coverage provides protection to the buyer for the amount of time they own the property.

Lender’s insurance covers unrecorded access rights and liens. If a borrower defaults on their loan, the lender will be covered up to the amount of the mortgage. If you’re investing in a piece of real estate, it’s a good idea to perform a title search to ensure it doesn’t contain any defects that you haven’t been made aware of. For example, homes in foreclosure can have numerous issues that need to be resolved. Insurance can protect against unforeseen title claims.

Conclusion

Title insurance is highly recommended for buyers and lenders alike. With the right insurance policy, the buyer will be protected from unexpected claims that the title company missed. Lenders require insurance to make sure that they don’t suffer significant monetary loss if the borrower defaults on their mortgage. Compared to traditional insurance, these policies protect from past occurrences. Consider buying this insurance to safeguard your real estate investments.