Title Insurance: Determining an Insured’s Loss and Calculating the Damages
Even the most prudent lay person or attorney in private practice cannot inspect and discover each and every title defect that might affect the property. In order to protect against the risk of defects in ownership, title insurance is purchased, which is the most misunderstood, yet most valuable, forms of insurance in America.
Title insurance is the most misunderstood, and one of the most valuable, forms of insurance in America. Even the most prudent attorney in private practice or lay person cannot inspect and discover each and every title defect or claim that might affect a specific property. In order to protect against this inherent risk of property ownership or defects in ownership, title insurance is purchased.
“A title insurance policy is a contract by which the title insurer agrees to indemnify its insured for loss occasioned by a defect in title.” E.C.I. Fin. Corp. v. First Am. Tit. Ins. Co. of N.Y., 121 A.D.3d 833, 834 (2d Dept. 2014). This is fundamentally different from other forms of insurance, and the policy holder is not required to prove fault.
Automotive insurance, for example, might protect a car owner in the event that their car breaks down or is damaged in an accident after the policy is issued. Title insurance, on the other hand, looks backwards: for a single payment made at closing, it protects the insured against hidden defects encumbering the property for as long as the insured, or the insured’s successors, who succeed to the protections of the policy under the definition of insured or the provisions for the continuation of coverage in the rate manual, retain an interest in that property. In that way, title insurance looks “back to the future”—meaning that it insures title defects, such as adverse possession, that existed before the transfer of the property.
Unfortunately, this is often misunderstood by both legal practitioners and purchasers. While a title company might be found negligent in failing to timely file an action to dispute an alleged title defect, title companies are not liable in negligence merely because hidden defects are found to encumber the property. See, e.g., Citibank v. Chicago Tit. Ins. Co., 214 A.D.2d 212 (1st Dept. 1995) (dismissing the insured’s negligence cause of action against title company for a negligently conducted title search). This is because title insurance is a contract and therefore any damages owed are designated, and limited, by the terms of the policy. [This case has been codified in the proposed 2021 ALTA Policy expected to be introduced in July.]
Similarly, a title insurance policy may not be used as a homeowners insurance policy to protect against non-title related issues with a property. See, e.g., Ilkowitz v. Durand, 2018 U.S. Dist. LEXIS 51946 (S.D.N.Y. 2018), where our firm successfully argued that the title insurance company was not liable for personal injuries caused by lead-based paint.
Prior to the use of the ALTA Owner’s Policy of Title Insurance, which came into circulation around 2006(6-17-06) (the “2006 policy”), most title polices were silent as to how damages should be calculated in the event of a title defect. This left the court system to fill the void and develop a general framework for this analysis.
Much was learned from these cases and these lessons are reflected in both the 2006 policy and the pending ALTA Owner’s Policy, which is expected to be introduced this summer and take effect in New York following regulatory approval.
The New York Court of Appeals and the Second Appellate Department took up this task in a series of decisions in the 1980s under the caption L. Smirlock Realty Corp. v. Title Guarantee Co. In one of the Second Department decisions, which was affirmed by the Court of Appeals, the Court laid out a remarkably simply standard: the measure of recovery depends on the nature of the defect. L. Smirlock Realty Corp. v. Title Guarantee Co., 97 A.D.2d 208 (2d Dep’t 1983) (aff’d on appeal, 63 N.Y.2d 955 ). Where there is a total loss of title, such as a fraudulent deed or the complete adverse possession of one’s property, the insured will recover the market value of the property, within the limits of the policy. Where there is a partial loss of title, and where that partial loss cannot be easily rectified, such as an easement running over a portion of one’s property, the insured will recover the difference between the value of the property without the defect and the value of the property with the defect. Consequential or speculative damages are not considered, instead the court looks to how the property is then being used to determine its value.
This is best demonstrated by examining the facts of L. Smirlock itself. In that case, the plaintiff purchased a warehouse property for the sum of $600,000 and obtained a title policy in the amount of $600,000. Soon after purchasing the property, the plaintiff invested $95,000 in improving the property. Two years after the closing, it was discovered that the primary means of access to the property had been condemned by the town years before. Now worth only a fraction of its prior value, the property was foreclosed upon, and the plaintiff sued for the full $600,000 under the title policy.
The Appellate Division, applying the above standard, subtracted the property’s value with the primary means of access, $800,000, by the value of the property without such access, which it found to be $206,150 based upon expert testimony. The court thereby awarded plaintiff $593,850, which represented the difference in the value of the property caused by the defect in title.
As noted by the court in its decision, this is, “at once, a restrictive and expansive statement of damages. It is restrictive in that conjectural lost profits are not included. It is expansive in that the insured is protected against more than just nominal damages or out-of-pocket expenses.” Id. at 219.
These general principles are reflected in both the 2006 policy and the proposed 2021 policy.
Title Company Liability Under the 2006 and 2021 ALTA Policies. The 2006 policy has in many ways been modeled after L. Smirlock, and applies the same general standard. Section 8 of the 2006 policy, Determination and Extent of Liability, provides that:
“This policy is a contract of indemnity against actual monetary loss or damage sustained or incurred by the Insured Claimant who has suffered loss or damage by reason of matters insured against by this policy.
“The extent of liability of the company for loss or damage under the 2006 policy shall not exceed the lesser of (i) the amount of insurance; or (ii) the difference between the value of the title as insured and the value of the title subject to the risk insured against this policy.”
The proposed 2021 policy follows the 2006 policy in this regard, and provides for the same general calculation of damages.
Insured Is Entitled To Recover the Direct Loss in Value and Not Consequential or Speculative Damages. Courts have interpreted the 2006 policy provision insuring against ‘actual monetary loss or damage sustained’ as having the same meaning as provided for in L. Smirlock, namely, that an insured is only entitled to recovery of the direct diminution in property value sustained as a result of the defect in title and is not entitled to consequential or speculative, damages.
For example, in Gomez v. Fidelity Natl. Tit. Ins. Co. of N.Y., 34 Misc. 3d 1233(A) (Sup. Ct. Queens Cty. 2012) (aff’d on Appeal, 109 A.D.3d 638 [2d Dept. 2013]), a landowner purchased a title policy that insured him against defects in title up to a policy limit of $175,000. The plaintiff began construction of improvements to a building on his property and soon thereafter discovered a defect in title that allegedly prevented the completion of construction. The defect at issue was an encroachment of a neighbor’s structure onto the plaintiff’s property, which was greater than the encroachment listed in the title policy’s exceptions.
The title insurance company offered to pay the insured $6,000, as the difference between the value of the property without the encroachment, $609,000, and the value with the encroachment, $603,000. The plaintiff sought damages for the now-impossible construction, alleging that if the new construction was completed the property would have been worth $1,150,000. The cost was believed to be $206,000, and so the plaintiff sought damages in the amount of $341,000 ($1,150,000—$603,000 – $206,000), or up to the policy limit.
The court granted the title company’s motion to dismiss the complaint, holding that a title policy is a contract to indemnify against actual monetary loss or damage sustained or incurred by the insured claimant, which does not include consequential damages. The court thereby held that the plaintiff was only entitled to recover the $6,000 offered by the insurance company.
Both the current 2006 policy and the upcoming proposed 2021 policy contain identical language of indemnity against ‘actual monetary loss,’ and do not otherwise address consequential damages. Therefore case law will control.
Determining the Date Used To Calculate the Value of the Property. While the 2006 policy and common law share numerous similarities, one key difference to be cognizant of is the date used to calculate the value of the property. Under the 2006 policy, Section 8 (b)(ii), the insured can decide whether to have the value, and corresponding loss, calculated as of either the date the claim was made by the insured, or as of the date the claim was settled and paid. Under the majority common law rule in New York, the value is calculated as of the date the insured discovered the defect. However, the proposed 2021 ALTA policy, proposes to adopt a combination of the 2006 policy and the common law rule. The 2021 ALTA policy will permit the insured to choose among several dates when claiming a loss: 1) the date that the insured discovered the defect; 2) in the event of a total loss, the date of the policy’s purchase; 3) the date the insured made the claim 4) the date the claim was settled/paid.. Until it takes effect (and even then, the 2006 policy will still govern many issued policies still in effect) and while the date of discovery and date of notification will often be the same date in practice, it might be different depending on the case.
Payment to the Insured Depends on the Policy Amount or Property’s Market Value. There are two direct inferences one can draw from the aforementioned measure of damages. The first, and more obvious one, is that you can only recover under a title policy when you suffer some form of actual monetary loss. For example, if a hidden lien is discovered on a mortgagee’s property, but the mortgagee later forecloses and discharges the undisclosed lien, the mortgagee has suffered no recoverable loss under a title policy. See Citibank v. Chicago Tit. Ins. Co., 214 A.D.2d 212 (1st Dept. 1995).
The second, and more surprising, inference is that insured’s equity in the property is not a relevant consideration under either the 2006 policy or common law. While the purchase price is certainly a useful factor in determining a property’s value at the time of loss, and in practice is often the limit of the policy, it is not necessarily dispositive. For example, the property’s fair market value may be considerably greater than the purchase price, in which case the recovery will still be the title policy limit. On the other hand, where the fair market value at the time of loss is less than the purchase price, the insured is entitled to the limit of the policy as compensation for the total breach of the warranty of title, that being the out-of-pocket injury.
This is best demonstrated in the Second Department case, Rose Dev. Corp. v. Einhorn. In that case, a group of investors purchased a property at a foreclosure. The insured then purchased the property from the investors for $150,000, and obtained title insurance with a policy limit of $275,000. It was later revealed that the group of investors did not actually own the foreclosed upon property, and that the subsequent sale to the insured was invalid. The Court, in applying the above principles, held that the title company was required to pay the maximum amount under the policy, $275,000, despite the fact that the insured purchased the property for less. Rose Dev. Corp. v. Einhorn, 65 A.D.3d 1115 (2d Dept. 2009). The proposed 2021 policy has adopted this case’s reasoning in providing that the insured can elect to utilize the date the policy was insured to calculate fair market value if the entire title is void.
Insuring the Contract Price or the Market Value Rider. A limited but notable exception to the above is where the insured homeowner purchases a market value policy rider, which is the highest level of coverage an insured is able to obtain. The standard 2006 policy will insure title up to the limits of the policy—potentially increased by 10% in the event that the insurer elects to litigate a claim. A market value policy rider, on the other hand, does exactly what it sounds like—rather than setting a policy limit to a specific dollar amount, such as the purchase price, the policy limit is set to whatever the fair market value of the property is at the date of loss.
The market value policy rider is easily applied to the framework laid out above. For example, in the Second Department case Appleby v. Chicago Tit. Ins. Co. an insured held a market value rider and was entitled to recover damages for the loss of an easement running to the property. The court held that the insured would recover the diminution of the market value of the premises from the date of purchase to the date of loss, up to the market value of the premises on the date of loss. Appleby v. Chicago Tit. Ins. Co., 80 A.D.3d 546 (2d Dept. 2011).
In New York, the market value policy rider [typically—filed rate] costs an additional 10% of a policy’s premium. Despite its clear advantages, it is not often purchased. For most purchasers, this makes sense: a market value rider is only truly helpful if the loss will exceed the purchase price or face value of a policy. Where there is a partial loss, such as an easement or slight encroachment, its exceedingly unlikely that the diminution in property value will, by itself, exceed the value of the policy. Rather, the market value rider’s primary benefit is where there is a total loss of title and property, which may have greatly increased in value since purchase. While that is a tremendous gain for an insured, it only helps in those limited circumstances.
Pre-judgment interest is another very important consideration, especially in states like New York where the statutory rate of interest is extremely high. The primary question is whether prejudgment interest in recoverable and included in calculating an insured’s loss. Surprisingly, none of the 2006 policy, the proposed 2021 policy, or case law conclusively answer whether an insured is permitted to include interest into this calculation.
Without discussing whether such interest should be included, the Second Department and Court of Appeals in L. Smirlock, permitted prejudgment interest from the date that the cause of action existed, following CPLR 5011(b). Absent any policy provision to the contrary, practitioners should be wary and take note of what their jurisdiction’s common law dictates on the issue.
Adam Leitman Bailey is the founding partner at Adam Leitman Bailey, P.C. Adam L. Bailey & Michael J. Berey, co-edited the recent publication of Real Estate Titles: The Practice of Real Estate Law in New York (2020).