HOW CREDIT
SCORES AFFECT
YOUR
MORTGAGE
Most of the anxiety in a mortgage transaction is caused by the loan application process. Most people today can’t afford to pay cash for their homes so the loan process is one we can’t avoid.
The two major unknowns of the loan process are whether you will get approved and at what percentage rate. Both of these depend primarily on your credit. The better your credit the better your chances for approval at a low rate with less documentation required. But what exactly is good credit? What’s the difference between A credit, A- credit and B credit? Every bank has its own rules and definitions. That’s where credit scores come in to play.
THE REASON BEHIND CREDIT SCORES.
Lenders need a way to simplify the loan approval process. They wanted to make it more streamlined, (to reduce costs) and more impersonal (to avoid lawsuits). To solve this problem a company called Fair Isaac developed a credit risk model based on thousands of credit histories. The Fair Isaac Model called FICO was the first credit scoring system to hit the mortgage industry.
The FICO score is a number between 350 and 850 that tries to determine how much of a credit risk a consumer is. The higher the score, the less risky.
In the early 1990’s, Fannie Mae, (FNMA) started requiring credit scores on all loans submitted to them for purchase. FNMA is the company that buys mortgage loans from lenders and banks. Therefore, most banks and mortgage companies need you to qualify under FNMA loan guidelines so that they can sell your mortgage note to FNMA.
FNMA decided that 620 would be the cutoff credit score. They stated they would not buy the loan of anyone with a score below 620 because they consider that loan to be too risky. What happens is that loan then becomes harder to sell on the secondary market which in turn causes the rate for the borrower to go up due to the investors risk factors being higher.
Where do you stand? What are your credit scores? Feel free to call me and have me pull a credit report for you so we can go over what you can do to improve your credit rating.
HOW THE SCORE IS CALCULATED
There are three major credit bureaus. Equifax, Experian and Trans Union. Each of these bureaus has a personal credit file on you and they each have different information available in their reports. They all generate a credit rating based on the information they are provided. Sometimes creditors do not report to all three bureaus which is why your score varies.
What this means is you have 3 credit reports and 3 credit scores. Equifax uses a score called Beacon, TransUnion’s is called Empirica and Experian uses FICO. Depending on what information is being reported, your score could vary drastically from bureau to bureau. I’ve seen clients of mine have a score of 700 with one bureau and a 595 with another.
Lenders have gotten around this by saying that your middle score must be 620 to qualify for FNMA financing. For example, if your scores are 650,635 and 619 you would qualify for FNMA loans because your middle score is a 635.
HOW THEY COME UP WITH SCORES
The process of determining the scores is a very difficult mathematical calculation. They take dozens of items into account. Here is a basic summary of what affects you the most.
Payment history is 35% of your credit score. Lenders are most concerned about whether or not you pay your bills. The best indictor of this is how you’ve paid your bills in the past. Late payments, collections, and bankruptcies all affect the payment history of your credit score. More recent delinquencies hurt your credit score more than those in the past.
Debt level is 30% of your score. The amount of debt you have in comparison to your credit limits is known as credit utilization. The higher your credit utilization – the closer you are to your limits – the lower your credit score will be. Keep your credit card balances at about 50% of your limit or less.
Length of credit history is 15% of your score. Having a longer credit history is favorable because it gives more information about your spending habits. It’s good to leave open the accounts that you’ve had for a long time.
Inquiries are 10% of your score. Each time you make an application for credit, it’s added to your credit report. Too many applications for credit can mean that you are taking on a lot of debt or that you are in some kind of financial trouble. While inquiries can remain on your credit report for two years, your FICO score calculation only considers those made within a year.
Mix of credit is 10% of your score. Having different kinds of accounts is favorable because it shows that you have experience managing a mix of credit. This isn’t a significant factor in your credit score unless you don’t have much other information on which to base your score. Open new accounts as you need them, not to simply have what seems like a better mix of credit.
Once you know how your credit score is calculated, it is much easier to take the steps to build good credit.
Basically, every piece of bad information on your report lowers your score. Major bad listings are collections, bankruptcies (with late payments after the bankruptcy was discharged), consumer counseling (just a bad as a bankruptcy) and of course foreclosure. Some minor bad listings are late payments (late payments on your mortgage are the worst, go late on everything else before you go late on your mortgage), high balances and too many accounts open.
HOW TO IMPORVE YOUR SCORE
· Stop applying for credit – no more inquires
· Pay down credit cards below 50% of max limit
· Consolidate student loans
· Have incorrect information removed from credit
· Close accounts you do not use
· Lower payments on your car by refinancing
· Lower payments on your mortgage by refinancing
If you have negative information on your report that you cannot remove, the bureaus say the best way to improve your score is to let time go by. The older the negative information gets, the less important it becomes in the credit score mathematical equations.
THE FUTURE OF CREDIT SCORING
Credit scores are now being used in many more places then just the mortgage approval department. Credit card companies are calculating their interest rates off of your credit score, even insurance companies are accepting and rejecting applications based on your credit. Some people are starting to protest the use of credit scores in certain industries like insurance, but the benefits of credit scores outweigh the negatives, at least as far as the lenders are concerned. I see credit scores becoming more main stream and getting to the point if it’s not already, where applications will be accepted or rejected solely based on your past credit and that is why it is so important to make sure yours is as high as it can be.
No one wants the bad things of their past to affect their future and everyone wants to be able to do what they want when they want.
Talk to me directly to see if there is anything you can do to raise your score. My cell is 804-432-3708
Thank you
Justin Hartman
Tuesday, December 4, 2007
What is Mortgage Insurance? Better yet why?
Lenders mortgage insurance (LMI), also known as Private mortgage insurance (PMI) in the US, is insurance payable to a lender that may be required when taking out a mortgage loan. It is an insurance in the case that the mortgagor is not able to repay the loan, and the lender is not able to recover its costs after foreclosing the loan and selling the mortgaged property.
The annual cost of PMI varies and is expressed in terms of the total loan value in most cases, depending on the loan term, loan type, proportion of the total home value that is financed, the coverage amount, and the frequency of premium payments (monthly, annual, or single).
The PMI may be payable up front, or it may be capitalized onto the loan in the case of single premium product. This type of insurance is usually only required if the downpayment is less than 20% of the sales price or appraised value (in other words, if the loan-to-value ratio (LTV) is 80% or more). Once the principal is reduced to 80% of value, the PMI is often no longer required. This can occur via the principal being paid down, via home value appreciation, or both. In the case of lender-paid MI, the term of the policy can vary based upon the type of coverage provide (either primary insurance, or some sort of pool insurance policy). Borrowers typically have no knowledge of any lender-paid MI, in fact most "No MI Required" loans actually have lender-paid MI, which is funded through a higher interest rate that the borrower pays.
Sometimes lenders will require that LMI be paid for a fixed period (for example, 2 or 3 years), even if the principal reaches 80% sooner than that. Legally, there is no obligation to allow the cancellation of MI until the loan has amortized to a 78% LTV ratio (based on the original purchase price). The cancellation request must come from the Servicer of the mortgage to the PMI company who issued the insurance. Often the Servicer will require a new appraisal to determine the LTV. The cost of mortgage insurance varies considerably based on several factors which include: loan amount, LTV, occupancy (primary, second home, investment property), documentation provided at loan origination, and most of all, credit score.
If a borrower has less than the 20% downpayment needed to avoid a mortgage insurance requirement, they might be able to make use of a second mortgage (sometimes referred to as a "piggy-back loan") to make up the difference. Two popular versions of this lending technique are the so-called 80/10/10 and 80/15/5 arrangements. Both involve obtaining a primary mortgage for 80% LTV. An 80/10/10 program uses a 10% LTV second mortgage with a 10% downpayment, and an 80/15/5 program uses a 15% LTV second mortgage with a 5% downpayment. Other combinations of second mortgage and downpayment amounts might also be available. One advantage of using these arrangements is that under United States tax law, mortgage interest payments may be deductible on the borrower's income taxes, whereas mortgage insurance premiums were not until 2007. In some situations, the all-in cost of borrowing may be cheaper using a piggy-back than by going with a single loan that includes borrower-paid or lender-paid MI.
The annual cost of PMI varies and is expressed in terms of the total loan value in most cases, depending on the loan term, loan type, proportion of the total home value that is financed, the coverage amount, and the frequency of premium payments (monthly, annual, or single).
The PMI may be payable up front, or it may be capitalized onto the loan in the case of single premium product. This type of insurance is usually only required if the downpayment is less than 20% of the sales price or appraised value (in other words, if the loan-to-value ratio (LTV) is 80% or more). Once the principal is reduced to 80% of value, the PMI is often no longer required. This can occur via the principal being paid down, via home value appreciation, or both. In the case of lender-paid MI, the term of the policy can vary based upon the type of coverage provide (either primary insurance, or some sort of pool insurance policy). Borrowers typically have no knowledge of any lender-paid MI, in fact most "No MI Required" loans actually have lender-paid MI, which is funded through a higher interest rate that the borrower pays.
Sometimes lenders will require that LMI be paid for a fixed period (for example, 2 or 3 years), even if the principal reaches 80% sooner than that. Legally, there is no obligation to allow the cancellation of MI until the loan has amortized to a 78% LTV ratio (based on the original purchase price). The cancellation request must come from the Servicer of the mortgage to the PMI company who issued the insurance. Often the Servicer will require a new appraisal to determine the LTV. The cost of mortgage insurance varies considerably based on several factors which include: loan amount, LTV, occupancy (primary, second home, investment property), documentation provided at loan origination, and most of all, credit score.
If a borrower has less than the 20% downpayment needed to avoid a mortgage insurance requirement, they might be able to make use of a second mortgage (sometimes referred to as a "piggy-back loan") to make up the difference. Two popular versions of this lending technique are the so-called 80/10/10 and 80/15/5 arrangements. Both involve obtaining a primary mortgage for 80% LTV. An 80/10/10 program uses a 10% LTV second mortgage with a 10% downpayment, and an 80/15/5 program uses a 15% LTV second mortgage with a 5% downpayment. Other combinations of second mortgage and downpayment amounts might also be available. One advantage of using these arrangements is that under United States tax law, mortgage interest payments may be deductible on the borrower's income taxes, whereas mortgage insurance premiums were not until 2007. In some situations, the all-in cost of borrowing may be cheaper using a piggy-back than by going with a single loan that includes borrower-paid or lender-paid MI.
The Option Arm & Pick A Payment Loan
This is one of the hottest products on the market with the savvy investors:
The "Option ARM" is a product that gives you choices as to what payment you want to make.
This product goes by a number of different names:
Option ARM
PayOption ARM
Pick-a-Pay Loan
Cash-flow ARM
Millionaires Mortgage
Usually, there are four payment options. 1) 30 year fixed; 2) 15 year fixed; 3) Interest Only; 4) Minimum payment (negative amortization – also known as deferred interest).
The only one of those payments that is unique – is the negative amortization option. The minimum payment option concept is simple: Basically, you make a payment that is less than the amount of interest that you were charged for the month. So, maybe you started the month owing $1,000,000 – but at the end of the month you might owe $1,000,300. At the end of the next month if you did it again, you might owe $1,000,600.
So – who are these loans good for? Ideally, these loans are good for people who value cash flow. These people are willing to pay higher rates of interest to keep their payments low because they believe they can use that cash for better purposes. For the most part, these loans are best for people who are strong financially. These people have a lot of money in the bank and invest the cash flow into other things.
Who are these loans not so good for? These loans aren't good for people who are struggling to make a house payment. The problem with people taking this loan who aren't financially strong is that they are falling behind month after month. And, they often end up paying more interest than if they had taken a product that fixes in the interest rate for a period of time.
Right now, in the United States, there is an estimated $500 billion to $800 billion of these Option ARMs out there.
The rate generally changes every month. At the beginning of each month, the computer looks at two things to calculate the rate the margin and the index. However those with this product making the minimum payment hardly care about the rate adjusting. They are only concerned about the 2% rate fixed for 5 years.
The index is nothing more than some interest rate that has been chosen by the lender. Lenders use different indices. Some of the indices are:
LIBOR – London Inter Bank Offering Rate.
MTA – Monthly Treasury Average (this takes the 1 year Treasury rate for the last 12 months and divides by 12).
COFI – Cost of Funds Index (a bunch of west coast banks take an average of their short term rates)
COSI – Cost of Savings Index (west coast banks take an average of the rates they are paying on savings accounts)
All of these indices are measures of short term interest rates. One way or another, they are all being highly influenced by the Fed Funds rate that the Federal Reserve sets. As the Fed keeps taking the Fed Funds rate lower – all of these indices will go lower (which will mean the Option ARM client will pay less and less).
If you have any questions feel free to call me. 804-432-3708
The "Option ARM" is a product that gives you choices as to what payment you want to make.
This product goes by a number of different names:
Option ARM
PayOption ARM
Pick-a-Pay Loan
Cash-flow ARM
Millionaires Mortgage
Usually, there are four payment options. 1) 30 year fixed; 2) 15 year fixed; 3) Interest Only; 4) Minimum payment (negative amortization – also known as deferred interest).
The only one of those payments that is unique – is the negative amortization option. The minimum payment option concept is simple: Basically, you make a payment that is less than the amount of interest that you were charged for the month. So, maybe you started the month owing $1,000,000 – but at the end of the month you might owe $1,000,300. At the end of the next month if you did it again, you might owe $1,000,600.
So – who are these loans good for? Ideally, these loans are good for people who value cash flow. These people are willing to pay higher rates of interest to keep their payments low because they believe they can use that cash for better purposes. For the most part, these loans are best for people who are strong financially. These people have a lot of money in the bank and invest the cash flow into other things.
Who are these loans not so good for? These loans aren't good for people who are struggling to make a house payment. The problem with people taking this loan who aren't financially strong is that they are falling behind month after month. And, they often end up paying more interest than if they had taken a product that fixes in the interest rate for a period of time.
Right now, in the United States, there is an estimated $500 billion to $800 billion of these Option ARMs out there.
The rate generally changes every month. At the beginning of each month, the computer looks at two things to calculate the rate the margin and the index. However those with this product making the minimum payment hardly care about the rate adjusting. They are only concerned about the 2% rate fixed for 5 years.
The index is nothing more than some interest rate that has been chosen by the lender. Lenders use different indices. Some of the indices are:
LIBOR – London Inter Bank Offering Rate.
MTA – Monthly Treasury Average (this takes the 1 year Treasury rate for the last 12 months and divides by 12).
COFI – Cost of Funds Index (a bunch of west coast banks take an average of their short term rates)
COSI – Cost of Savings Index (west coast banks take an average of the rates they are paying on savings accounts)
All of these indices are measures of short term interest rates. One way or another, they are all being highly influenced by the Fed Funds rate that the Federal Reserve sets. As the Fed keeps taking the Fed Funds rate lower – all of these indices will go lower (which will mean the Option ARM client will pay less and less).
If you have any questions feel free to call me. 804-432-3708
Here's the skinny on title insurance!
A lot of my clients this year had some questions about the title insurance fee most title companies charge on home purchases and refinances. This blog should stop the confusion. It may not be what you want to hear but it will definitely clarify everything for you once and for all.
What is Title Insurance?
Title insurance is insurance against loss from defects in title to real property and from the invalidity or unenforceability of mortgage liens. It is available in many countries but it is principally a product developed and sold in the United States. It is meant to protect an owner's or lender's financial interest in real property against loss due to title defects, liens or other matters. It will defend against a lawsuit attacking the title as it is insured, or reimburse the insured for the actual monetary loss incurred, up to the dollar amount of insurance provided by the policy. The first title insurance company, the Law Property Assurance and Trust Society, was formed in Pennsylvania in 1853.[1] Title insurance was created in the United States and the vast majority of title insurance policies are written on land within the U.S. It is, however, available in many other countries, such as Canada, Australia, United Kingdom, Northern Ireland, Mexico, New Zealand, China, Korea and throughout Europe.
Typically the real property interests insured are fee simple ownership or a mortgage. However, title insurance can be purchased to insure any interest in real property, including an easement, lease or life estate. Just as lenders require fire insurance and other types of insurance coverage to protect their investment, nearly all institutional lenders also require title insurance to protect their interest in the collateral of loans secured by real estate. Some mortgage lenders, especially non-institutional lenders, may not require title insurance.
The following focuses on title insurance as issued in the United States.
Who chooses what Title Insurance Company will be Used?
The individual homeowner. A federal law called the Real Estate Settlement and Procedures Act [RESPA] entitles the individual homeowner to choose a title insurance company when purchasing or refinancing residential property. Typically, homeowners don't make this decision for themselves, instead relying on their bank's or attorney's choice; however, the homeowner retains the right. RESPA makes it unlawful for any bank, broker or attorney to mandate that a particular title insurance company be used. Doing so is a gross violation of federal law and any person or business doing so can be heavily fined or lose its license.
The only exception to this rule applies to commercial real estate transactions, which is not within the parameters of RESPA.
How much does Title Insurance Cost?
Unlike car insurance and life insurance, in the United States, the vast majority of individual state governments regulate and set the insurance premiums for properties in the state. New York and New Jersey are perfect examples. In these situations it is illegal for title insurance companies to charge any higher or lower than the statutory premiums set by the state government.
In addition to the insurance premium, most title companies charge fees for searching the public records and compiling a report, which is used as a basis for issuing the insurance policy. Some states, like New York, do not regulate these fees and will therefore change from one company to another. Other states, like New Jersey, regulate these fees much like the premiums.
Why Title Insurance Exists in the United States?
Title insurance exists in the US in great part because of a comparative deficiency in the US land records laws. Most of the industrialized world uses land registration systems for the transfer of land titles or interests in them. Under these systems, the government makes the determination of title ownership and encumbrances on the title based on the registration of the instruments transferring or otherwise affecting the title in the applicable government office. With only a few exceptions, the government's determination is conclusive. Governmental errors lead to monetary compensation to the person damaged by the error but that aggrieved party usually cannot recover the property.
A few jurisdictions in the United States have adopted a form of this system, e.g., Minneapolis, Minnesota and Boston, Massachusetts. However, for the most part, the states have opted for a system of document recording in which no governmental official makes any determination of who owns the title or whether the instruments transferring it are valid. The reason for this is probably that it is much less expensive to operate than a land registration system; it doesn't require the number of legally skilled employees that the registration systems do.
Greatly simplified, in the recording system, each time a land title transaction takes place, the transfer instrument is recorded with a local government recorder located in the jurisdiction (usually the county) where the land lies. The instrument is then indexed by the names of the grantor (transferor) and the grantee (transferee) and photographed so it can be found and examined by anyone who wants to see it. Usually, the failure by the grantee to record the transfer instrument voids it as to subsequent purchasers of the property who don't actually know of its existence.
Under this system, determining who owns the title requires the examination of the indexes in the recorders' offices pursuant to various rules established by state legislatures and courts, scrutinizing the instruments to which they refer and making the determination of how they affect the title under applicable law. (The final arbiters of title matters are the courts, which make decisions in suits brought by parties having disagreements.) Initially, this was done by hiring an abstractor to search for the documents affecting the title to the land in question and an attorney to opine on their meaning under the law, and this is still done in some places. However, this procedure has been found to be cumbersome and inefficient in most of the US. Substantial errors made by the abstractor or the attorney will be compensated only to the limit of the financial responsibility of these parties (including their liability insurance). Some errors may not be compensated at all, depending on whether the error was the result of negligence.[2] The opinions given by attorneys as to each title are not uniform and often require time consuming analysis to determine their meanings.
Title insurers use this recording system to produce an insurance policy for any purchaser of land, or interest in it, or mortgage lender if the premium is paid. Title insurers use their employees or agents to perform the necessary searches of the recorders' offices records and to make the determinations of who owns the title and to what interests it is subject. The policies are fairly uniform (a fact that greatly pleases lenders and others in the real estate business) and the insurers carry, at a minimum, the financial reserves required by insurance regulation to compensate their insureds for valid claims they make under the policies. This is especially important in large commercial real estate transactions where many millions of dollars are invested or loaned in reliance on the validity of real estate titles. As stated above, the policies also require the insurers to pay for the costs of defense of their insureds in legal contests over what they have insured. Abstractors and attorneys have no such obligation.
Comparison with other insurance
Title insurance differs in several respects from other types of insurance. Where most insurance is a contract where the insurer indemnifies or guarantees another party against a possible specific type of loss (such as an accident or death) at a future date, title insurance generally insures against losses caused by title problems that have their source in past events. This often results in the curing of title defects or the elimination of adverse interests from the title before a transaction takes place. Title insurance companies attempt to achieve this by searching public records to develop and document the chain of title and to detect known claims against or defects in the title to the subject property. If liens or encumbrances are found, the insurer may require that steps be taken to eliminate them (for example, obtaining a release of an old mortgage or deed of trust that has been paid off, or requiring the payoff) before issuing the title policy. In the alternative, it may "except" those items not eliminated from coverage. Title plants are sometimes maintained to index the public records geographically, with the goal of increasing searching efficiency and reducing claims.
The explanation above discloses another difference between title insurance and other types: title insurance premiums are not principally calculated on the basis of actuarial science, as is true in most other types of insurance. Instead of correlating the probability of losses with their projected costs, title insurance seeks to eliminate the source of the losses through the use of the recording system and other underwriting practices. As a result, a relatively small fraction of title insurance premiums are used to pay insured losses. The great majority of the premiums are used to finance the title research on each piece of property and to maintain the title plants used to efficiently do that research. There is significant social utility in this approach as the result conforms with the expectations of most property purchasers and mortgage lenders. Generally, they want the real estate they purchased or loaned money on to have the title condition they expected when they entered the transaction, rather than money compensation and litigation over unexpected defects.
Types of policies
Standardized forms of title insurance exist for owners and lenders. The lender's policies include a form specifically for construction loans, though this is rarely used today.
Owner's policy
The owner's policy insures a purchaser that the title to the property is vested in that purchaser and that it is free from all defects, liens and encumbrances except those which are listed as exceptions in the policy or are excluded from the scope of the policy's coverage. It also covers losses and damages suffered if the title is unmarketable [3] The policy also provides coverage for loss if there is no right of access to the land. Although these are the basic coverages, expanded forms of residential owner's policy exist that cover additional items of loss.[4]
The liability limit of the owner's policy is typically the purchase price paid for the property. As with other types of insurance, coverages can also be added or deleted with an endorsement. There are many forms of standard endorsements to cover a variety of common issues. The premium for the policy may be paid by the seller or buyer as the parties agree; usually there is a custom in a particular state or county on this matter which is reflected in most local real estate contracts. Consumers should inquire about the cost of title insurance before signing a real estate contract which provide that they pay for title charges. A real estate attorney, broker, escrow officer (in the western states), or loan officer can provide detailed information to the consumer as to the price of title search and insurance before the real estate contract is signed. Title insurance coverage lasts as long as the insured retains an interest in the land insured and typically no additional premium is paid after the policy is issued.
Lenders Policy
This is sometimes called a loan policy and it is issued only to mortgage lenders. Generally speaking, it follows the assignment of the mortgage loan, meaning that the policy benefits the purchaser of the loan if the loan is sold. For this reason, these policies greatly facilitate the sale of mortgages into the secondary market. That market is made up of high volume purchasers such as Fannie Mae and the Federal Home Loan Mortgage Corporation as well as private institutions.
The American Land Title Association ("ALTA") forms are almost universally used in the country though they have been modified in some states. In general, the basic elements of insurance they provide to the lender cover losses from the following matters:
1. The title to the property on which the mortgage is being made is either
• Not in the mortgage loan borrower,
• Subject to defects, liens or encumbrances, or
• Unmarketable.
2. There is no right of access to the land.
3. The lien created by the mortgage:
• is invalid or unenforceable,
• is not prior to any other lien existing on the property on the date the policy is written, or
• is subject to mechanic's liens under certain circumstances.
As with all of the ALTA forms, the policy also covers the cost of defending insured matters against attack.
Elements 1 and 2 are important to the lender because they cover its expectations of the title it will receive if it must foreclose its mortgage. Element 3 covers matters that will interfere with its foreclosure.
Of course, all of the policies except or exclude certain matters and are subject to various conditions.
There are also ALTA mortgage policies covering single or one-to-four family housing mortgages.
These cover the elements of loss listed above plus others. Examples of the other coverages are loss from forged releases of the mortgage and loss resulting from encroachments of improvements on adjoining land onto the mortgaged property when the improvements are constructed after the loan is made.
Construction loan policy
In many states, separate policies exist for construction loans. Title insurance for construction loans require a Date Down endorsement which recognizes that the insured amount for the property has increased due to construction funds that have been vested into the property.
Land title associations
In the United States, the American Land Title Association (ALTA) is a national trade association of title insurers. ALTA has created standard forms of title insurance policy "jackets" (standard terms and conditions) for Owner's, Lender's and Construction Loan policies. ALTA forms are used in most, but not all, U.S. states. ALTA also offers special endorsement forms for the various policies; endorsements amend and typically broaden the coverage given under a basic title insurance policy. ALTA does not issue title insurance; they provide the policy forms that title insurers issue.
Some states, including Texas and New York, may mandate the use of forms of title insurance policy jackets and endorsements approved by the state insurance commissioner for properties located in those jurisdictions, but these forms are usually similar or identical to ALTA forms.
While title insurance generally insures owners and lenders against things that have occurred in the past, in some limited circumstances, in some states, coverage is available for certain events that can occur after a title insurance policy is issued. Most notably, coverage is now available that includes the risk that a third party may place a forged mortgage or deed of trust against a property after the owner's policy has been issued. This coverage is included in the "Homeowners Policy of Title Insurance" (a specific policy form), published by ALTA and the California Land Title Association (CLTA). Note that this is not the same as a so-called CLTA Standard Policy, which provides much less coverage than the Homeowners Policy of Title Insurance.
Industry profitability
The title insurance industry is a profitable one. In 2003, according to ALTA, the industry paid out about $662 million in claims, about 4.3% percent of the $15.7 billion taken in as premiums. By comparison, the boiler insurance industry, which like title insurance requires an emphasis on inspections and risk analysis, pays 25% of its premiums in claims.
Comparing claims with premiums tells only part of the story, because, for example, title insurance companies have marketing expenses not incurred by the boiler insurance industry. Also, the boiler insurance inspections do not provide the certainty of risk level that the recording laws provide for title insurers. But the industry's profitability is also hinted at by the repeated instances of state regulators uncovering cases where title insurers have engaged in illegal marketing tactics. Although owners are free to shop around for title insurance, many owners defer such decisions to lenders or real estate agents, and title insurance companies have sometimes used illegal tactics in marketing to those decision-makers. Illegal tactics noted in a CNN/Money article include kickbacks, free vacations, and the free use of office space and equipment. The article noted that in 2005 alone over a dozen title insurers settled with regulators for tens of millions of dollars over these practices.
Further evidence of the industry's profitability can be found by comparing the title insurance costs in the 49 states where such insurance is issued with the costs associated with the state-run Title Guaranty Program in Iowa, where title insurance is illegal. The program is run by the Iowa Finance Authority. It costs $110 for up to $500,000 in coverage in the state; after adding costs for the services of an abstractor (who does the research on the property) and the legal fees, such a title guaranty costs about $400.00, versus the $1,100.00 paid for that same home in other states (based on figures cited by the Iowa Bar Association).
In many states, the price of title insurance is regulated by a state Insurance Commissioner. In these states, such as Florida, the rate for the insurance premium cannot be controlled by the industry. Unlike other forms of insurance such as life, medical or home owners; title insurance is not paid for annually, it has one payment for the term of the policy, which is in effect until the property is resold.
Notes
^ D.B. Burke, Jr., Law of Title Insurance, Little Brown & Company (1986) § 1.1, p. 2.).
^ See, Watson v. Muirhead 57 Pa. 161 (1868) where a non negligent error based on an attorney's opinion resulted in no compensation to the purchaser of the property. This case is said to be the impetus for title insurance in the U.S. (D.B. Burke, Jr., Law of Title Insurance, Little Brown & Company (1986) § 1.1, p. 2.)
^ A title is unmarketable if it would be unacceptable to a reasonable purchaser exercising reasonable business prudence, who is informed of the facts creating or affecting it and their legal meaning, because it appears subject to material defect, grave doubt or to the likelihood of litigation. However, the title need not be bad in fact to be "unmarketable." Black's Law Dictionary 4th Ed. West Publishing Co. 1951) defining "Marketable Title" and "Unmarketable Title."
^ Examples are the American Land Title Association Residential Owner's Policy and Expanded Coverage Residential Owner's Policy.
What is Title Insurance?
Title insurance is insurance against loss from defects in title to real property and from the invalidity or unenforceability of mortgage liens. It is available in many countries but it is principally a product developed and sold in the United States. It is meant to protect an owner's or lender's financial interest in real property against loss due to title defects, liens or other matters. It will defend against a lawsuit attacking the title as it is insured, or reimburse the insured for the actual monetary loss incurred, up to the dollar amount of insurance provided by the policy. The first title insurance company, the Law Property Assurance and Trust Society, was formed in Pennsylvania in 1853.[1] Title insurance was created in the United States and the vast majority of title insurance policies are written on land within the U.S. It is, however, available in many other countries, such as Canada, Australia, United Kingdom, Northern Ireland, Mexico, New Zealand, China, Korea and throughout Europe.
Typically the real property interests insured are fee simple ownership or a mortgage. However, title insurance can be purchased to insure any interest in real property, including an easement, lease or life estate. Just as lenders require fire insurance and other types of insurance coverage to protect their investment, nearly all institutional lenders also require title insurance to protect their interest in the collateral of loans secured by real estate. Some mortgage lenders, especially non-institutional lenders, may not require title insurance.
The following focuses on title insurance as issued in the United States.
Who chooses what Title Insurance Company will be Used?
The individual homeowner. A federal law called the Real Estate Settlement and Procedures Act [RESPA] entitles the individual homeowner to choose a title insurance company when purchasing or refinancing residential property. Typically, homeowners don't make this decision for themselves, instead relying on their bank's or attorney's choice; however, the homeowner retains the right. RESPA makes it unlawful for any bank, broker or attorney to mandate that a particular title insurance company be used. Doing so is a gross violation of federal law and any person or business doing so can be heavily fined or lose its license.
The only exception to this rule applies to commercial real estate transactions, which is not within the parameters of RESPA.
How much does Title Insurance Cost?
Unlike car insurance and life insurance, in the United States, the vast majority of individual state governments regulate and set the insurance premiums for properties in the state. New York and New Jersey are perfect examples. In these situations it is illegal for title insurance companies to charge any higher or lower than the statutory premiums set by the state government.
In addition to the insurance premium, most title companies charge fees for searching the public records and compiling a report, which is used as a basis for issuing the insurance policy. Some states, like New York, do not regulate these fees and will therefore change from one company to another. Other states, like New Jersey, regulate these fees much like the premiums.
Why Title Insurance Exists in the United States?
Title insurance exists in the US in great part because of a comparative deficiency in the US land records laws. Most of the industrialized world uses land registration systems for the transfer of land titles or interests in them. Under these systems, the government makes the determination of title ownership and encumbrances on the title based on the registration of the instruments transferring or otherwise affecting the title in the applicable government office. With only a few exceptions, the government's determination is conclusive. Governmental errors lead to monetary compensation to the person damaged by the error but that aggrieved party usually cannot recover the property.
A few jurisdictions in the United States have adopted a form of this system, e.g., Minneapolis, Minnesota and Boston, Massachusetts. However, for the most part, the states have opted for a system of document recording in which no governmental official makes any determination of who owns the title or whether the instruments transferring it are valid. The reason for this is probably that it is much less expensive to operate than a land registration system; it doesn't require the number of legally skilled employees that the registration systems do.
Greatly simplified, in the recording system, each time a land title transaction takes place, the transfer instrument is recorded with a local government recorder located in the jurisdiction (usually the county) where the land lies. The instrument is then indexed by the names of the grantor (transferor) and the grantee (transferee) and photographed so it can be found and examined by anyone who wants to see it. Usually, the failure by the grantee to record the transfer instrument voids it as to subsequent purchasers of the property who don't actually know of its existence.
Under this system, determining who owns the title requires the examination of the indexes in the recorders' offices pursuant to various rules established by state legislatures and courts, scrutinizing the instruments to which they refer and making the determination of how they affect the title under applicable law. (The final arbiters of title matters are the courts, which make decisions in suits brought by parties having disagreements.) Initially, this was done by hiring an abstractor to search for the documents affecting the title to the land in question and an attorney to opine on their meaning under the law, and this is still done in some places. However, this procedure has been found to be cumbersome and inefficient in most of the US. Substantial errors made by the abstractor or the attorney will be compensated only to the limit of the financial responsibility of these parties (including their liability insurance). Some errors may not be compensated at all, depending on whether the error was the result of negligence.[2] The opinions given by attorneys as to each title are not uniform and often require time consuming analysis to determine their meanings.
Title insurers use this recording system to produce an insurance policy for any purchaser of land, or interest in it, or mortgage lender if the premium is paid. Title insurers use their employees or agents to perform the necessary searches of the recorders' offices records and to make the determinations of who owns the title and to what interests it is subject. The policies are fairly uniform (a fact that greatly pleases lenders and others in the real estate business) and the insurers carry, at a minimum, the financial reserves required by insurance regulation to compensate their insureds for valid claims they make under the policies. This is especially important in large commercial real estate transactions where many millions of dollars are invested or loaned in reliance on the validity of real estate titles. As stated above, the policies also require the insurers to pay for the costs of defense of their insureds in legal contests over what they have insured. Abstractors and attorneys have no such obligation.
Comparison with other insurance
Title insurance differs in several respects from other types of insurance. Where most insurance is a contract where the insurer indemnifies or guarantees another party against a possible specific type of loss (such as an accident or death) at a future date, title insurance generally insures against losses caused by title problems that have their source in past events. This often results in the curing of title defects or the elimination of adverse interests from the title before a transaction takes place. Title insurance companies attempt to achieve this by searching public records to develop and document the chain of title and to detect known claims against or defects in the title to the subject property. If liens or encumbrances are found, the insurer may require that steps be taken to eliminate them (for example, obtaining a release of an old mortgage or deed of trust that has been paid off, or requiring the payoff) before issuing the title policy. In the alternative, it may "except" those items not eliminated from coverage. Title plants are sometimes maintained to index the public records geographically, with the goal of increasing searching efficiency and reducing claims.
The explanation above discloses another difference between title insurance and other types: title insurance premiums are not principally calculated on the basis of actuarial science, as is true in most other types of insurance. Instead of correlating the probability of losses with their projected costs, title insurance seeks to eliminate the source of the losses through the use of the recording system and other underwriting practices. As a result, a relatively small fraction of title insurance premiums are used to pay insured losses. The great majority of the premiums are used to finance the title research on each piece of property and to maintain the title plants used to efficiently do that research. There is significant social utility in this approach as the result conforms with the expectations of most property purchasers and mortgage lenders. Generally, they want the real estate they purchased or loaned money on to have the title condition they expected when they entered the transaction, rather than money compensation and litigation over unexpected defects.
Types of policies
Standardized forms of title insurance exist for owners and lenders. The lender's policies include a form specifically for construction loans, though this is rarely used today.
Owner's policy
The owner's policy insures a purchaser that the title to the property is vested in that purchaser and that it is free from all defects, liens and encumbrances except those which are listed as exceptions in the policy or are excluded from the scope of the policy's coverage. It also covers losses and damages suffered if the title is unmarketable [3] The policy also provides coverage for loss if there is no right of access to the land. Although these are the basic coverages, expanded forms of residential owner's policy exist that cover additional items of loss.[4]
The liability limit of the owner's policy is typically the purchase price paid for the property. As with other types of insurance, coverages can also be added or deleted with an endorsement. There are many forms of standard endorsements to cover a variety of common issues. The premium for the policy may be paid by the seller or buyer as the parties agree; usually there is a custom in a particular state or county on this matter which is reflected in most local real estate contracts. Consumers should inquire about the cost of title insurance before signing a real estate contract which provide that they pay for title charges. A real estate attorney, broker, escrow officer (in the western states), or loan officer can provide detailed information to the consumer as to the price of title search and insurance before the real estate contract is signed. Title insurance coverage lasts as long as the insured retains an interest in the land insured and typically no additional premium is paid after the policy is issued.
Lenders Policy
This is sometimes called a loan policy and it is issued only to mortgage lenders. Generally speaking, it follows the assignment of the mortgage loan, meaning that the policy benefits the purchaser of the loan if the loan is sold. For this reason, these policies greatly facilitate the sale of mortgages into the secondary market. That market is made up of high volume purchasers such as Fannie Mae and the Federal Home Loan Mortgage Corporation as well as private institutions.
The American Land Title Association ("ALTA") forms are almost universally used in the country though they have been modified in some states. In general, the basic elements of insurance they provide to the lender cover losses from the following matters:
1. The title to the property on which the mortgage is being made is either
• Not in the mortgage loan borrower,
• Subject to defects, liens or encumbrances, or
• Unmarketable.
2. There is no right of access to the land.
3. The lien created by the mortgage:
• is invalid or unenforceable,
• is not prior to any other lien existing on the property on the date the policy is written, or
• is subject to mechanic's liens under certain circumstances.
As with all of the ALTA forms, the policy also covers the cost of defending insured matters against attack.
Elements 1 and 2 are important to the lender because they cover its expectations of the title it will receive if it must foreclose its mortgage. Element 3 covers matters that will interfere with its foreclosure.
Of course, all of the policies except or exclude certain matters and are subject to various conditions.
There are also ALTA mortgage policies covering single or one-to-four family housing mortgages.
These cover the elements of loss listed above plus others. Examples of the other coverages are loss from forged releases of the mortgage and loss resulting from encroachments of improvements on adjoining land onto the mortgaged property when the improvements are constructed after the loan is made.
Construction loan policy
In many states, separate policies exist for construction loans. Title insurance for construction loans require a Date Down endorsement which recognizes that the insured amount for the property has increased due to construction funds that have been vested into the property.
Land title associations
In the United States, the American Land Title Association (ALTA) is a national trade association of title insurers. ALTA has created standard forms of title insurance policy "jackets" (standard terms and conditions) for Owner's, Lender's and Construction Loan policies. ALTA forms are used in most, but not all, U.S. states. ALTA also offers special endorsement forms for the various policies; endorsements amend and typically broaden the coverage given under a basic title insurance policy. ALTA does not issue title insurance; they provide the policy forms that title insurers issue.
Some states, including Texas and New York, may mandate the use of forms of title insurance policy jackets and endorsements approved by the state insurance commissioner for properties located in those jurisdictions, but these forms are usually similar or identical to ALTA forms.
While title insurance generally insures owners and lenders against things that have occurred in the past, in some limited circumstances, in some states, coverage is available for certain events that can occur after a title insurance policy is issued. Most notably, coverage is now available that includes the risk that a third party may place a forged mortgage or deed of trust against a property after the owner's policy has been issued. This coverage is included in the "Homeowners Policy of Title Insurance" (a specific policy form), published by ALTA and the California Land Title Association (CLTA). Note that this is not the same as a so-called CLTA Standard Policy, which provides much less coverage than the Homeowners Policy of Title Insurance.
Industry profitability
The title insurance industry is a profitable one. In 2003, according to ALTA, the industry paid out about $662 million in claims, about 4.3% percent of the $15.7 billion taken in as premiums. By comparison, the boiler insurance industry, which like title insurance requires an emphasis on inspections and risk analysis, pays 25% of its premiums in claims.
Comparing claims with premiums tells only part of the story, because, for example, title insurance companies have marketing expenses not incurred by the boiler insurance industry. Also, the boiler insurance inspections do not provide the certainty of risk level that the recording laws provide for title insurers. But the industry's profitability is also hinted at by the repeated instances of state regulators uncovering cases where title insurers have engaged in illegal marketing tactics. Although owners are free to shop around for title insurance, many owners defer such decisions to lenders or real estate agents, and title insurance companies have sometimes used illegal tactics in marketing to those decision-makers. Illegal tactics noted in a CNN/Money article include kickbacks, free vacations, and the free use of office space and equipment. The article noted that in 2005 alone over a dozen title insurers settled with regulators for tens of millions of dollars over these practices.
Further evidence of the industry's profitability can be found by comparing the title insurance costs in the 49 states where such insurance is issued with the costs associated with the state-run Title Guaranty Program in Iowa, where title insurance is illegal. The program is run by the Iowa Finance Authority. It costs $110 for up to $500,000 in coverage in the state; after adding costs for the services of an abstractor (who does the research on the property) and the legal fees, such a title guaranty costs about $400.00, versus the $1,100.00 paid for that same home in other states (based on figures cited by the Iowa Bar Association).
In many states, the price of title insurance is regulated by a state Insurance Commissioner. In these states, such as Florida, the rate for the insurance premium cannot be controlled by the industry. Unlike other forms of insurance such as life, medical or home owners; title insurance is not paid for annually, it has one payment for the term of the policy, which is in effect until the property is resold.
Notes
^ D.B. Burke, Jr., Law of Title Insurance, Little Brown & Company (1986) § 1.1, p. 2.).
^ See, Watson v. Muirhead 57 Pa. 161 (1868) where a non negligent error based on an attorney's opinion resulted in no compensation to the purchaser of the property. This case is said to be the impetus for title insurance in the U.S. (D.B. Burke, Jr., Law of Title Insurance, Little Brown & Company (1986) § 1.1, p. 2.)
^ A title is unmarketable if it would be unacceptable to a reasonable purchaser exercising reasonable business prudence, who is informed of the facts creating or affecting it and their legal meaning, because it appears subject to material defect, grave doubt or to the likelihood of litigation. However, the title need not be bad in fact to be "unmarketable." Black's Law Dictionary 4th Ed. West Publishing Co. 1951) defining "Marketable Title" and "Unmarketable Title."
^ Examples are the American Land Title Association Residential Owner's Policy and Expanded Coverage Residential Owner's Policy.
Subscribe to:
Posts (Atom)
