When you take out a mortgage, one of your closing costs will be for title insurance. The premium is a one-time charge, and the policy protects the lender. You also can purchase owner’s title insurance to protect yourself, but it’s not required. Here’s what you need to know about what title insurance covers, how much it costs and whether you should buy the optional owner’s policy.
What Is Title Insurance?
Title insurance is a policy that covers third-party claims on a property that don’t show up in the initial title search and arise after a real estate closing. A third party is someone other than the property’s owner, such as a construction company that didn’t get paid for its work on the home under a previous owner. The term “title” refers to someone’s legal ownership of the property.
A title claim could arise at any time, even after you’ve owned the property with no problems for many years. How could this happen? Someone else might have ownership rights that you don’t know about when you make an offer to buy a property. Even the current owner might not be aware that someone else has a claim on the property. In the case of an overlooked heir, even the person who has those rights might not know they have them.
Before your home loan closes, your mortgage lender will order a title search from a title company. The title company searches for public records related to your home to try to find any title defects: liens, easements or encumbrances that could affect the lender’s or buyer’s property rights.
Liens can get placed on the property by a contractor, tax authority or lender who hasn’t been paid. You don’t want to get stuck paying a previous owner’s unpaid bills.
Easements are someone else’s right to use your property even though you are the owner. For example, if there are utility lines in your backyard, the utility company will have an easement that allows them to access your property if they need to work on the lines. The easement could limit your ability to use your property however you want.
Encumbrances include liens (also called “financial encumbrances”) as well as easements, but also include zoning laws, restrictive covenants imposed by homeowners associations and leaseholder rights.
The public records a title company searches include deeds, mortgages, divorce decrees, court judgments, tax records and child support orders.
If the title search reveals any problems (also called “clouds”), the title company will try to resolve them. In some cases, your real estate agent will need to work with the seller’s agent to get the seller to resolve the problem. In other cases, the problem may be significant enough to derail the sale.
Types of Title Insurance
There are two types of title insurance: lender’s title insurance (also called a loan policy) and owner’s title insurance.
A lender’s title insurance policy protects the financial interests of the company that issues the mortgage (just like mortgage insurance does). It makes sure the lender has the top claim on the property above any other liens. You’ll have to purchase lender’s title insurance any time you take out a mortgage, whether you’re buying a home or refinancing. A discount may be available when you’re refinancing if your loan is less than 10 years old, according to Prairie Title in Oak Park, Illinois.
Major mortgage investors Fannie Mae and Freddie Mac, who frequently buy home loans from lenders after closing, require the lender’s title policy coverage to be at least as much as the mortgage principal. As you pay down your mortgage principal, the lender’s coverage declines accordingly.
An owner’s title insurance policy protects the homebuyer. For an owner’s policy, the coverage amount is usually equal to the purchase price and remains constant for as long as you or your heirs own the home. This type of policy is optional and only needs to be purchased once.
Title Insurance Costs
Title insurance is a one-time, up-front fee—not an ongoing expense. An owner’s policy is based on the home’s purchase price, while a lender’s policy is based on the loan amount. Both policies together usually cost about 0.5% to 1.0% of the home’s purchase price, or $1,500 to $3,000 on a $300,000 home, according to the American Land Title Association (ALTA), a large national trade group of title agents.
In some states, the price for title insurance is the same no matter which title insurance company you use. In others, you stand to save money by shopping around.
As a homebuyer, it’s your choice which title insurance company to use. You may get recommendations from the seller or your real estate agent, but you might not want to go with their suggestions without doing your own research.
You can go with your lender’s recommendation because their financial interests in the property are aligned with yours. However, some lenders also have a financial interest in the title companies they recommend to borrowers.
That doesn’t mean you won’t get a competitive price if you go with the lender’s recommendation, but it does mean you might want to do some price comparisons. According to the Consumer Financial Protection Bureau, you may be able to save up to $500 by shopping around.
To find a title insurance company, you can conduct an online search of the ALTA Registry for companies in your state using the advanced search function. You also could opt for one of the major title insurers: Fidelity, First American, Old Republic or Stewart. Make sure the company’s financial strength ratings and reputation check out.
Either the buyer or seller can pay for the owner’s policy on behalf of the buyer. Local real estate custom often determines who pays. Buying an owner’s policy at the same time as a lender’s policy can reduce the cost of the owner’s policy through what’s called a “simultaneous issue charge.”
You can get an estimate of what title insurance costs in your area using Old Republic’s rate calculator and Fidelity National’s rate calculator. You also can get a quick quote from First American Title’s fee calculator or Stewart’s rate calculator. You may be able to get estimates for other closing services at the same time.
How Title Insurance Works
An owner’s title insurance policy can cover the costs of paying off a previously undiscovered lien or defending against a lawsuit filed against you by someone claiming a right to the property. It can also provide a cash settlement to a new owner who unwittingly purchases a property with a forged deed from a fraudulent seller who did not actually own the home. Further, owner’s title insurance protects your ability to sell the home one day if a problem turns up during a later title search.
That said, title insurance doesn’t protect homeowners against all possible infringements on their property rights. For example, it doesn’t protect you against title problems caused by your own actions, such as failing to pay the company that replaced your roof or failing to pay your property taxes. It also doesn’t protect against eminent domain, which is when a government seizes private property for an ostensibly public purpose.
In short, it doesn’t protect against issues newly created after you buy the property. It protects against issues that might have affected your decision to purchase the property had you known about them at the time.
You’re probably less concerned about how a lender’s policy works, since it doesn’t protect you. But you might still be curious, since you’re being asked to pay for it.
Let’s say you lose your home because it turns out the property was sold to you fraudulently. You’re not going to keep paying the mortgage. The lender will then file a claim with its title insurance company to recoup the mortgage payments it was expecting to get from you.
Under other circumstances where you stopped paying your mortgage, the lender could foreclose and recoup its losses from selling the home. But if it turns out that someone else has a right to the home, foreclosure isn’t an option.
You can check out the industry standard forms used for owner’s and lender’s policies at the ALTA website.
Is Title Insurance Required?
Lender’s title insurance is required, but owner’s title insurance is optional. An owner’s policy can protect you against losing your equity and your right to live in the home if a claim arises after purchase. Even if you’re buying a new home, defects can exist because the land has had previous owners and the builder might not have paid all its contractors.
These are some of the issues an owner’s title policy can protect you against:
Property survey errors
Boundary disputes
Errors on the property deed
Building code violations by a previous owner
Conflicting wills
Claims by an ex-spouse who didn’t authorize the sale
Claims related to a forged power of attorney
Liens from contractors, taxing entities or previous lenders
A former owner’s unpaid child support
Encroachments
Improperly recorded documents
As with many other types of insurance, an owner’s title insurance policy can feel like a waste of money if you never need to use it. But it’s a small price to pay to protect your interests in case anyone challenges your title after you close on your home.