Prepared by AmCham member: Squire Sanders and in Corporation with First Title
A Squire Sanders client, a European real estate fund, was in negotiations to buy a logistics facility in Slovakia. The tenants appeared solvent, and the lease terms were more or less market standard. The physical plant was relatively new and in good condition . The economy is booming and there is every expectation that regional demand for this type and quality of rental space would be high during the period the fund expects to hold the asset.
But there was a problem. There always is. In this case, title to the land underlying part of the facility was clouded. The land was assembled by the local municipality only several months prior to the date the fund's counterpart purchased the land from the city and built the facility. A significant portion assembled by the city had originally been owned by several dozen small landowners. The city was able to buy up the property from about half of them. For the other half, it took a shortcut. Who knows why? Maybe the city was having difficulty locating the registered owners. Maybe the records had been displaced. In any case, the city declared that it had acquired part of the land through adverse possession, that is, it had held the land openly and conspicuously for at least 10 years in a good faith belief that it was the owner. In the course of due diligence on this acquisition, we learned that there were some real doubts as to whether the city had met the "good faith" requirement.
What to do now? Well, the easiest things to do would be for our client to "take a view" and simply accept the risk. But what happens sometime down the road when the fund wants to exit its investment? Will the next buyer be just as inclined to "take a view" and overlook the potential defect in title or, almost certainly, will it demand a price reduction for the defect? After all, the passage of time, while significantly decreasing the likelihood in practical terms that a claimant would step forward, would not eliminate the legal risk as the "good faith" requirement could not be met as the fund now had knowledge of the potential problem.
In stepped First Title Insurance Plc, one of the first - and certainly the largest - title insurance companies on the Central European market. For a one-time premium amounting to approximately one-quarter of one per cent of the appraised value of the land, the fund - and the lender of the acquisition financing - was secured against the potential defect in title. It turned out that this was a price the seller was willing to pay to provide the fund with the functional equivalent of the clean title it had bargained for and the deal was back on track.
Does this mean title insurance is the magic bullet for any real estate transaction that runs into title trouble? No. But it does have its uses and it is important to understand what title insurance is, what it is not and when it can be of value.
Importantly, having title insurance does not actually mean you have clean title. It does mean, however, that the title insurance company will defend the insured's interest at first notification of a claim, subject to the conditions of the insurance policy. If an insured title defect voids the insured's interest in the title, the title insurer will pay damages or loss caused by the title defect, or take steps to correct the problem.
Title insurance has been available since the mid 1800's and has grown into a standard product for over 90% of the real estate transactions closed in the U.S. In fact, First American, the parent company of First Title, has existed since 1889 and has a string of A ratings. First Title has been operating in Europe for over 20 years, and is Europe's largest title insurer.
Title insurance differs from other types of insurance such as property casualty insurance in one major way. While both types of insurance policies protects the value of the property, title insurance protects against defects and risks that originated in the past, while property casualty insurance protects against future events.
Like other title insurers, First Title issues two insurance policies: (1) Owner's Policy - that insures the owner or borrower and (2) Lender's policy - one that insures the party holding a security over the real estate. These policies can be issued separately or jointly depending on the transaction.
While title insurance is used in nearly every property transaction in the U.S. given the more fragmented nature of real estate recordkeeping there, it has also been deployed to cover a number of title risks common in Central Europe, including:
- Restitution claims
- Defective compliance with Government conveyance laws
- Gap periods to register interests within the land and mortgage registers
- Adverse possession matters
- Defective construction permits
- Instruments executed under invalid or expired power of attorney
- Mistakes in recording legal documents
- Deeds by persons supposedly single, but in fact married
- Fraud
For a lender, an investor or a developer, proper due diligence and a well-drafted sale and purchase agreement with a seller that stands behind its warranties is the first line of defense against title defects. But if a defect is found that cannot be fixed for a price of within the timeframe available to the parties, title insurance may well be the solution.
Andrew Sandor and Andrew Jackson
Andrew Sandor is a senior associate with Squire Sanders s.r.o in Bratislava and Andrew Jackson is the director of First Title CEE, a subsidiary of First Title Insurance Plc. This article is of an informative character only. For more information, contact Squire Sanders at
www.ssd.com
or First Title CEE at
www.firsttitle.eu
First Title Insurance plc is authorised and regulated by the Financial Services Authority.