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HOLDING COMMITMENTS FOR CONSTRUCTION MORTGAGES OPEN

EDITOR'S NOTE: This is a reprint of the November 9, 2007, memo from Gregory J. Miely regarding new construction.

It is becoming more frequent that lenders who are financing new construction after the purchaser acquires the land are requesting that ATG "leave the commitment open" during construction, and then issue the final loan policy after construction has been completed. This poses a number of questions and potential problems, not the least of which is the extent to which ATG is liable for post closing title defects. This memo will attempt to clarify these issues and provide some guidelines for handling post-closing construction. PLEASE NOTE: These instructions are different from ATG's previous guidelines for holding the commitment open, so please discard all other instructions and replace them with this memo.

The commitment for title insurance is more than just a report of title as of a certain day and time; it is also a contract between the insurer and the proposed insured in which the insurer agrees to issue a policy of insurance in accordance with the terms set forth in the commitment. One of those terms is the type of policy that will be issued to the insured. In most transactions, that policy will be the ALTA Standard Loan Policy. Unfortunately, the ALTA Standard Loan Policy's coverage is too broad if the insured mortgage is to be used, in whole or in part, to pay for new construction.

The ALTA Standard Loan Policy insuring clause seven provides the insured with coverage against a loss of priority of the insured mortgage due to a mechanics' lien arising from the following:

(a) an improvement or work related to the land which is contracted for or commenced prior to Date of Policy; or

(b) an improvement or work related to the land which is contracted for or commenced subsequent to Date of Policy and which is financed in whole or in part by proceeds of the indebtedness secured by the insured mortgage which at Date of Policy the insured has advanced or is obligated to advance.

Thus, the standard policy insures against the post-policy event of a mechanics' lien claimant claiming priority over the insured mortgage if any portion of the insured mortgage proceeds is used to finance the construction. Since this is precisely the risk involved when the lender requests that ATG "leave the commitment open," steps must be taken to limit or eliminate ATG's liability for that risk.

One way to eliminate that risk is to modify the commitment to commit to issue an ALTA Construction Loan Policy rather than the Standard Loan Policy. The Construction Loan Policy completely excludes insuring clause seven and contains other provisions in the Exclusions from Coverage and the Conditions and Stipulations that make it clear that no mechanics' lien coverage is being afforded the insured. Committing to issue this policy allows ATG to issue the policy as soon as the mortgage is recorded, which will afford the lender title coverage for all matters except mechanics' liens. It also allows ATG to process the policy and account for the premiums in a timely manner. Frequently, the construction mortgage will be refinanced prior to or at the time of completion of the construction, and having issued a policy at the time of recording of the mortgage will better facilitate that refinance.

If issuing a Construction Loan Policy is unacceptable, then Schedule B of the final Standard Loan Policy should contain the following two exceptions from the commitment:

Any lien or right to a lien, for services, labor, or material heretofore or hereafter furnished, imposed by law and not shown by the public records;

Consequences of the failure of the lender to pay out properly the whole or any part of the loan secured by the mortgage described in Schedule A, as affecting: (i) the validity of the lien of said mortgage; and (ii) the priority of the lien over any other right, claim, lien, or encumbrance that has or may become superior to the lien of said mortgage before the disbursement of the entire proceeds of the loan.

With these exceptions on Schedule B, the final policy may be issued as soon as the mortgage is recorded. Again, the goal is to issue the policy in the normal course of events in order to remove any uncertainty as to ATG's liability.

Once the construction is completed, upon submission of proper affidavits and lien waivers, a Date Down endorsement may be issued to delete these two exceptions. The Date Down endorsement should not extend the Date of Policy. The reason for this is that a substantial period of time usually will have passed, and extending the Date of Policy requires a later date search and an update of all affidavits, undertakings, or other documents that were obtained in order to issue the policy with the coverage to which ATG committed. Additionally, since construction has taken place, extending the Date of Policy would require a survey of the completed improvements in order to continue the survey coverage normally given on a loan policy. If the insured requires that the Date of Policy be extended after completion of construction, then a survey and updated documentation must be obtained before the endorsement may be issued.

Another problem with delaying issuance of the final policy concerns the term of the commitment itself. A commitment terminates six months after its effective date. In order to extend the commitment's term, a later date search must be conducted and a Date Down Endorsement issued, thereby extending the commitment's term for an additional six months. If the construction period extends beyond those six months, and a Date Down Endorsement is not issued extending the term, ATG has no further liability under the commitment. If it was agreed at the closing to "leave the commitment open," it is unclear whether ATG thereby agreed to extend its liability despite the expiration of the six months.

It is precisely these kinds of problems that are not addressed prior to closing that cause considerable delay, confusion, and ultimately, increased liability afterward because it was agreed to "leave the commitment open." To prevent these problems, raise the following exception on Schedule B of the commitment if it is known or contemplated that issuance of the final policy will be delayed: ATG has been requested to delay issuance of the final policy or policies committed for hereunder after the proposed insured acquires of record the estate or interest or mortgage in the land due to construction of improvements on the land. ATG hereby agrees to delay issuance of the final policy or policies subject to the following conditions:

1. If ATG has agreed to delete Special Exception 1 from this Commitment, the final policy or policies will be subject to defects, liens, encumbrances, adverse claims, or other matters, if any, created, first appearing in the public records, or attaching subsequent to the date the proposed insured acquires for value of record the estate or interest or mortgage thereon covered by this Commitment.

 

2. If the delay in issuing the final policy or policies extends beyond six months from the Effective Date of this commitment, all liability and obligations of ATG hereunder shall cease and terminate.

 

3. Upon completion of construction, ATG must be provided final owner and general contractor sworn statements (ATG Forms 3018, or 3018-A and 3018-B) and final lien waivers (ATG Form 3005), in a form acceptable to ATG, from all entities supplying materials, labor, or services to the land. In addition, ATG must be provided an Indemnity Agreement (ATG Form 3006) signed by the owner(s) and general contractor(s).

 

4. If Standard Exceptions 1, 2, or 3 are to be removed from the final policy or policies, ATG must be provided with a current ALTA statement (ATG Form 3004) and a survey acceptable to ATG of the land and all improvements thereon.

 

5. If any endorsements or other additional coverage were committed for the final policy or policies, all inspections, undertakings, affidavits or other documentation, and all other requirements to issue the endorsements or additional coverage must be updated to include the Date of Policy.

 

6. The payment to ATG of recording, search, examination, underwriting, endorsement, or other fees as may be required to issue the final policy or policies.

Frequently, there is no further communication between the proposed insureds and ATG or its member after the closing. If the member is responsible for completing the final policies, it is essential that the member follow up with the proposed insureds to determine when construction has been completed so that the final policies may be issued.

Post-closing construction poses a number of problems that can lead to misunderstanding, claims, and poor customer relations. By addressing these problems and their solutions prior to closing, these problems can be avoided and the title work can be completed in a timely and less costly manner.

We appreciate your cooperation with these important procedures. If you have questions, please contact any member of the ATG Underwriting Department,[email protected], 217.403.0020, or 312.752.1990.

© ATG UB0801vol13no1