Why do I need title insurance when I buy a home?
Title insurance protects the policyholder in the event that there is a defect in the property title. In other words, if you buy a property and a person, company or government entity makes a claim on your property in the future, title insurance protects you financially against loss caused by the claim.
For example, let’s say you bought a home from an individual and several years later that individual’s sibling comes forward to say that he or she was a partial owner of the property and did not agree to sell the property to you. This matter could end up in litigation and risk your ownership of the property. A title insurance policy would protect you in this situation.
Another example is if you own a home with a significant amount of land and the government wants to build a road through part of your property two years after you bought the home. The government may claim that it has an easement that legally allows them to build the road that you were not aware of. Title insurance protects you in the event your property value decreases due to the road construction.
As these examples illustrate, if there is a defect in your property ownership, or title, it can negatively affect your property value, which reduces the value of the collateral used to secure your mortgage. This is why lenders require you to have title insurance when you buy a home.
If the value of your property declines because of an ownership issue, it may make you less likely to pay your mortgage, which is bad for the lender. With title insurance, you are more likely to resolve any ownership dispute, or at least be protected financially in the case of resolution that is not in your favor, which increases the likelihood that you continue to pay your mortgage.
Before a title insurance policy is issued to a home buyer a title company or real estate attorney performs an extensive title report (also called a title search or abstract) that examines the ownership of a property. The title report outlines the property ownership and type, property lines as well as any liens or easements on the property.
Review our What is a Title Report?
A property lien is any debt secured by the property, such as a mortgage, home equity loan or past due property tax assessment. An easement is a right to access or use the property by a third party such a government entity or utility company.
If the title report identifies any issues such as an ownership dispute or impermissible liens on the property, these issues must be resolved before title insurance is issued and the property is transferred. A past-due property tax bull is an example of an impermissible lien on a property while a mortgage is an example of a permissible lien because the property seller pays off the mortgage when the property is transferred.
If the report does not identify any issues, this is called a “clear” title report and you can obtain title insurance and move forward with the home purchase. Although the title report confirms that there are no ownership disputes or outstanding liens against the property, you have title insurance to protect you in the rare event a property ownership issue occurs in the future.
It is important to highlight that because of the thorough nature of the title report, homeowners rarely file title insurance claims. Like with all insurance, hopefully you never need title insurance but you appreciate it if you need to.
Please note that the property seller usually pays for title insurance for the home buyer, who pays for title insurance for the lender -- so all parties involved in the home purchase and mortgage process are protected. You can shop around for title insurance, but rates are determined by state regulators so there typically is not a lot of difference in prices. Title insurance premiums depend on the value of your home and other factors, with the higher your property value, the higher the premium.
Sources
“What is owner's title insurance?” CFPB. Consumer Financial Protection Bureau, August 7 2017. Web.
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