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Transferring Your Rental to an LLC? Check Your Title Insurance!

Summary: When buying a rental property, you’re likely to hear the term “title insurance.” But what really is title insurance? And why should you care about it? In this article, we will dive into the ins and outs of title insurance and explore how you can make sure that you continue to be protected by it when you transfer your property into an LLC. 

 

When you buy a rental property, you logically assume possession means ownership. However, that’s not always the case. Possession may mean you have the keys to the house, but possession does not always mean ownership.

In this article, we discuss the major distinction between ownership and possession and cover how title insurance can protect your ownership interest. We also discuss how you might be at risk of losing your title insurance when you transfer your property into an LLC and what you can do about it.

 

What is “Title”? 

Title or “proof of title” is your ownership right. Proof of title is the real right to rent to whomever you choose, alter the building or even cut down a tree on the land, the whole nine yards. 

However, proof of title is not something you can just claim to have. You need evidence of title.

Evidence of title is established through legal documents called deeds. A deed transfers a property from the seller to the buyer. When you’re under contract for a property, the title company does a title search on the property by searching in the city or county public records to see what deeds have been filed with the city. The company is looking to establish to true ownership of the property.

If it was done correctly, a deed would have been made part of the public record and filed with the city or county. When doing a title search, the title company looks at all public records and checks all previous deeds to ensure that the title transfer of the property is clean.

In order for a title to be “clean” there cannot be liens or claims on the house. For example, if a previous owner did not pay property tax or an improvement was done to the house that was never fully paid, both of these situations would result in a lien. Liens need to be resolved, typically by payment by the seller to a third party, before they can be removed and the transaction between you and the seller can move forward.  

 

What is Title Insurance? 

Now that we have an understanding of what title is, what’s the deal with title insurance? Shouldn’t everything be good to go after you do a title search, and it shows up clean and free of any liens? Not quite.

The problem is that even though a title search has been done, there may still be outstanding claims to a property. In some cases, even sellers with good intentions might think they have ownership, but they really do not!

For example, a seller may have thought that he inherited the property, but there was actually a long lost child who suddenly shows up after you purchase the property, expecting the building to be his. In another example, even a dispute between a previous owner and another party decades in the past can affect your ownership rights. Any number of rare events such as an undisclosed heir, filing error of public records, forgeries, a cloud on the title, anything can lead to issues with your claim on a property.

At this point you may be thinking, how will I ever be totally safe if there are so many random things that can go wrong even years after I purchase a property?!

This is where title insurance comes into the picture. After the title company does the search to ensure everything is all clean, to protect you from any number of claims that might arise unexpectedly that are completely out of your control, you purchase (or the seller pays for, depending on the state) title insurance.

In addition to title insurance for your claim, most lenders will also make you get a lender’s title insurance policy so they are also protected in the transaction, since they are putting up most of the money through the loan. 

 

Why is it Important?

Title insurance is important for a number of reasons.

Firstly, most lenders require the buyer to have title insurance until the loan is paid off or refinanced. The bank wants to protect their investment.

For the buyer, title insurance is also a small price to pay for peace of mind. Much like any other insurance, as the buyer, you hope you will never need it, but if you do, you know it’ll be there for you, ready to help. That’s because in cases where a  newly discovered issue does arise, your title company will take care of legal expenses, any necessary investigation and litigation.

 

What Happens When You Transfer Title Insurance into an LLC?

Many seasoned investors buy a property in their own name, get a residential loan (since most lenders will not give a residential loan to an LLC) and then later transfer the title of the property to an LLC. Transfer of title to the LLC provides for legal protection of personal assets, anonymity, structure and tax benefits.

If this sounds interesting to you or you’d like to learn more on this process, we have a great article on it! 

While this seems simple enough, with a majority of title insurance policies, transferring a rental property to an LLC gets a bit complicated. Policies will have very specific wording about the identity of the “insured,” which can cause problems when there is a technical change of ownership form an individual into an LLC. Because the wording differs between companies, we encourage you to look at your specific policy to see how it defines the “insured.” Here’s an example of the standard ALTA (American Land Title Association) owner’s policy: 

“(d) “Insured”: The Insured named in Schedule A.

(i) the term “Insured” also includes

(A) successors to the Title of the Insured by operation of law as distinguished from purchase, including heirs, devisees, survivors, personal representatives, or next of kin;

(B) successors to an Insured by dissolution, merger, consolidation, distribution, or reorganization;

(C) successors to an Insured by its conversion to another kind of Entity;

(D) a grantee of an Insured under a deed delivered without payment of actual valuable consideration conveying the Title

(1) if the stock, shares, memberships, or other equity interests of the grantee are wholly-owned by the named Insured,

(2) if the grantee wholly owns the named Insured,

(3) if the grantee is wholly-owned by an affiliated Entity of the named Insured, provided the affiliated Entity and the named Insured are both wholly-owned by the same person or Entity, or

(4) if the grantee is a trustee or beneficiary of a trust created by a written instrument established by the Insured named in Schedule A for estate planning purposes.

(ii) with regard to (A), (B), (C), and (D) reserving, however, all rights and defenses as to any successor that the Company would have had against any predecessor Insured.”

Point “D” and “1” are the key points in this statement. If you as the individual buyer are the sole member of an LLC, also known as principal, then this policy would still cover your LLC. If you’re protecting yourself with a few levels of separation between you and your properties via an umbrella LLC, usually your policy coverage will not extend that far, so your title insurance will be voided. 

 

Let’s Break it Down. 

Scenario one: Jane and John Doe own Doe LLC. They want to transfer their property from their personal names to Doe LLC and want to ensure their title insurance policy is still effective. Since Doe LLC’s principals are Jane and John Doe, their policy would still cover their LLC. 

Scenario two: Jane and John Doe own J&J LLC, their umbrella LLC, which then owns Doe LLC. By transferring the property to Doe LLC (owned by J&J LLC) their policy would no longer cover this LLC or the property in case of a claim, because they are not the principals of the LLC, it is instead J&J LLC. 

 

What Can You Do to Ensure That Your Property is Covered?

There are several different ways to ensure your property is covered after transfer into an LLC, however, they vary with each company. Again, we want to encourage you to speak with your particular title insurance company before making any decisions. Below are some options. 

 

107.9 Endorsement

The safest option to ensure coverage extends to your LLC is to do a 107.9 endorsement, established by the California Land Title Association (CLTA). This endorsement adds an insured party to your policy. It is issued as an accommodation in circumstances where the additional insured would have been covered under the definition of insured in the Conditions and Stipulations of the original policy. This way, you can add your LLC as an insured party and have complete peace of mind regarding your property’s title. However, this does come with a cost: some companies have cheaper rates than others, but rates usually range from $100-$150 per policy. 

 

107.10 Endorsement

Another option is a 107.10 endorsement. Some title companies don’t do this endorsement and only do the 107.9 endorsement. The policy conditions are that the endorsement does not modify the terms and provisions of the policy, doesn’t modify any prior endorsements, doesn’t extend the date of policy and does not increase the amount of insurance. This is a great option, so just make sure you speak with your title company and see if they provide this option (and of course, ask if they will do it for FREE!) before deciding they are the best title company for you. 

 

Naming Your LLC at the Time of Purchase

With some title insurance companies, you can circumvent all of these endorsements by naming your LLC at the time of insuring the property. This works well when you are buying commercial properties or properties with five or more units because commercial lenders allow you to buy in the name of an LLC. However, this isn’t an option if you are using a residential loan to purchase your property because lenders will not allow you to use a residential loan to buy a property in the name of an LLC, thus forcing you to have to transfer later. 

 

DNP Endorsement

Finally, there is also a “Deletion of Natural Person” endorsement (DNP), which allows you to entirely remove yourself from the policy and change your policy’s conditions to add your legal entity instead. This endorsement functions with a homeowner’s policy and is only valid if the insured submits an ALTA survey. Typically, this endorsement is attached to your initial policy and adds “successors to an Insured by dissolution, merger, consolidation, distribution, or reorganization.”

Much like the 107.10 endorsement, it does not change any prior endorsements or terms and provisions of the policy, nor does it extend the date of policy or increase the amount of insurance. However, it should be noted that this endorsement is issued on a very limited, case-by-case basis with an underwriter’s approval or Chief Title Officer’s Approval, so this endorsement can be very difficult to obtain. 

 

Closing thoughts

Overall, there are many different methods to ensure that your property continues to be protected after transferring it into an LLC. The cost to do so is minimal and even sometimes free (if you choose the right title company)! Having this added element of protection will allow you to invest with peace of mind about ownership and continue your journey to financial freedom! 

**Be sure to download our free Step-by-Step LLC Guide to help you manage and maintain all aspects of your LLC!**


Download Your LLC Here

 

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Semi-Retired M.D. and its owners, presenters, and employees are not in the business of providing personal, financial, tax, legal or investment advice and specifically disclaims any liability, loss or risk, which is incurred as a consequence, either directly or indirectly, by the use of any of the information contained in this blog. Semi-Retired M.D., its website, this blog and any online tools, if any, do NOT provide ANY legal, accounting, securities, investment, tax or other professional services advice and are not intended to be a substitute for meeting with professional advisors. If legal advice or other expert assistance is required, the services of competent, licensed and certified professionals should be sought. In addition, Semi-Retired M.D. does not endorse ANY specific investments, investment strategies, advisors, or financial service firms.

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Hi, we’re Kenji and Leti

we provide coaching and mentorship for doctors and high-income earners

Several years ago, we were newlyweds working as full-time hospitalists. On paper, it looked like we had everything: the prestigious careers, the happy marriage, the luxurious rental home, the cars, etc.

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