A Very Bad Year



A Very Scary Year

August 17, 2009

Robert S. Bozarth.

Senior Vice President and

National Agency Counsel

Fidelity National Title Insurance Group

7130 Glen Forest Drive

Richmond, VA 23226

A Very Scary Year

The economic downturn that began in 2007 began to weigh heavily on the title insurance industry by 2008. The first inkling of trouble occurred when LandAmerica Financial Group merged Transnation Title Insurance Company into Lawyers Title Insurance Corporation on July 1, 2008 because Transnation had experienced unsustainable claims losses. The Transnation merger opened a difficult twelve months for the title insurance industry.[1]

On July 28, 2008, the Ohio Superintendent of Insurance sought and received an order of rehabilitation for the Guarantee Title and Trust Company from the Court of Common Pleas in Franklin County, Ohio (Columbus). Guarantee Title was a small regional player doing business in Arizona, Illinois, Kansas, Michigan, Ohio and Pennsylvania. In the rehabilitation proceedings, the Superintendent learned that Guarantee Title was insolvent and beyond saving, having a negative surplus of at least $5.5 million; so it petitioned the court for an order of liquidation, which was entered on October 27, 2008. It became the second insurer lost to the industry in 2008.

About the time of the liquidation order for Guarantee Title, LandAmerica Financial Group, Inc., a holding company for two national title insurers, Commonwealth land Title Insurance Company and Lawyers Title Insurance Corporation, began actively seeking a merger partner to rescue it from its financial troubles. Fidelity National Financial entered into a merger agreement with LandAmerica on November 7, 2008, but withdrew on Friday, November 21st after a two week due diligence examination because Fidelity National was uncomfortable with the financial condition of the holding company and its 1031 exchange facilitation company, LandAmerica 1031 Exchange Services, Inc. Upon the failure of the merger agreement, the Nebraska Department of Insurance placed Commonwealth and Lawyers Title into “rehabilitation” on Monday, November 24th. LandAmerica and its 1031 company filed petitions under chapter 11 of the Bankruptcy Code in the Bankruptcy Court for the Eastern District of Virginia on November 26th. Also on the 26th, Fidelity National Financial offered to buy four of the LandAmerica title insurance subsidiaries. Under the terms of the offer, two subsidiaries of the buyer, Fidelity National Title Insurance Corporation and Chicago Title Insurance Company would acquire Commonwealth, Lawyers Title and two regional insurers, United Capital Title Insurance Company (California) and LandAmerica NJ Title Insurance Company (NJ). After offering to buy the insurers, Fidelity National Title Insurance Company and Chicago Title Insurance Company, the two largest title insurers in the Fidelity National Financial family entered into reinsurance agreements with the four LandAmerica title insurers to reassure the customers of LandAmerica’s title insurers.

The purchase transactions moved swiftly. The bankruptcy court held a hearing on December 16th to consider the offer by Fidelity National Financial. The unsecured creditors asked the court for more time, to consider the Fidelity offer and to see if any other bidders would emerge. However, the Nebraska Department of Insurance insisted that it would place Commonwealth and Lawyers Title into liquidation if they were not sold to a satisfactory buyer by December 21st. Once in liquidation, the value of the companies would drop swiftly. Although Stewart Information Services Corp., parent of Stewart Title Guaranty Company made a competing bid for Commonwealth and Lawyers Title, it offered substantially less cash. Stewart’s bid was supported by the U.S. Justice Department because Justice was concerned about the concentration of market power if Fidelity acquired the companies. On the other hand, Justice did not say that it would stop a purchase by Fidelity, so the unsecured creditors’ committee threw its support to the Fidelity offer. The bankruptcy court ordered the sale to Fidelity. On December 21st, Fidelity acquired the four companies and contributed $101 million to Commonwealth’s capital and $113 million to Lawyers Title’s capital. The Nebraska Insurance Department released the two companies from the Order of Rehabilitation on December 21st when the purchase and capital contributions were complete.[2]

On June 11, 2009, ALPS Corporation announced that its wholly owned insurance company, Attorneys Liability Protection Society, Inc., had entered into a definitive stock purchase agreement to acquire Southern Title Insurance Corporation. Southern Title is a Richmond, Virginia-based title insurance underwriter serving 17 states and the District of Columbia.[3]

Finally, Florida’s Attorneys’ Title Insurance Fund, Inc., the largest of the “regional” title insurers (at least it was at the end of 2008), announced that it was forming a joint venture with Old Republic National Title Insurance Company effective July 1, 2009.[4] The Fund and its agents would stop issuing Fund policies on July 1st and begin issuing Old Republic policies instead. The Fund would cease operations as an underwriter and begin operating as a managing general agent for Old Republic, but it would remain responsible for claims asserted on existing Fund policies. Florida’s Office of Insurance regulation supervised the reorganization of the Fund from a title insurance underwriter to a managing general agent. In March, Old Republic had announced that it was amending a long standing reinsurance treaty with the Fund to automatically issue Reinsurance Assumption Certificates with all Fund policies issued after March 26, 2009. Apparently, that stopgap was inadequate to maintain the Fund’s underwriting operations.

July 1, 2008 to July 1, 2009 encompassed title insurance industry events that had an alarming impact on real estate transactions, but the processes involved may not be familiar to real estate practitioners. The remedies applied included a merger, rehabilitation and liquidation proceedings by state insurance regulators, a holding company bankruptcy, the acquisition of title insurance company stock and a reorganization of a title insurer to a managing general agent. That may sound bad, but compared to other sectors of the financial services industries, title insurance exited that twelve months in better shape than most.

Your client’s existing title insurance policies, ongoing transactions and escrows with title insurers and their agents may be affected by proceedings like these in the future. To manage these risks, you must first understand how title insurers are organized and regulated.

Financial Analysis of Insurance Holding Companies

The larger companies in title insurance are owned by publicly traded holding companies. The holding companies operate by the same rules that other publicly traded companies follow, but they are also subject to insurance holding company acts that prevent the holding company from impairing regulatory protections imposed on the insurance companies. These holding company acts are imposed by state laws enacted to protect policyholders and the general public. The enactments are based on the model Insurance Holding Company System Regulatory Act of the National Association of Insurance Commissioners (NAIC).

The Insurance Holding Company System Regulatory Act, or a variation of it, has been enacted by every state in the United States. The act requires holding companies to make annual reports, supplemented monthly, to enable the insurance regulators to overlook the holding company’s activities with its insurance subsidiaries. Holding companies must report transactions between the holding company and its insurance subsidiaries, transactions between insurance subsidiaries and any other holding company subsidiaries or affiliates, acquisitions of insurance companies by the holding company, or any subsidiary or affiliate, and payment of dividends by an insurance company that have been approved by the insurance company’s domiciliary insurance regulator.

Regulated insurance holding companies also may own non-insurance subsidiaries as well. For example, the holding companies for title insurers own 1031 exchange facilitation companies as well because they share the “same point of sale” with the title insurance companies on real estate exchanges. Even though a title insurer and an affiliate 1031 exchange company may join together to market their products, the title insurer can accept no liability for exchange company transactions or deposits, so the two services must be evaluated separately. A holding company for a title insurer also typically owns hundreds of non-insurance subsidiaries like title insurance agents, data providers, and transaction due diligence providers, many focused on real estate conveyancing.

Within the industry, the holding companies are viewed as families of title insurance companies. There are now four major title insurance families:

|Holding Company |Major Title Insurance Subsidiaries |State[5] |

|Fidelity National Financial, Inc. |Alamo Title Company |TX |

| |Chicago Title Insurance Company |NE |

| |Chicago Title Insurance and Trust Company |IL |

| |Commonwealth Land Title Insurance Company |NE |

| |Fidelity National Title Insurance Company |CA |

| |Lawyers Title Insurance Corporation |NE |

| |Security Union Title Insurance Company |CA |

| |Ticor Title Insurance Company |CA |

| |United Capital Title Insurance Company |CA |

| |Other small title insurance companies and agents | |

|First American Corporation |First American Title Insurance Company |CA |

| |First American Title Insurance Company of New York |NY |

| |First American Title Insurance Company of Oregon |OR |

| |Ohio Bar Title Insurance Company |OH |

| |United General Title Insurance Company |CA |

| |Other small title insurance companies and agents | |

|Old Republic International Company |American Guaranty Title Insurance Company |OK |

| |Mississippi Valley Title Insurance Company |MS |

| |Old Republic General Title Insurance Company |MN |

| |Old Republic National Title Insurance Company |MN |

| |Attorneys Title Insurance Fund (FL General Managing Agent) |FL |

| |Other small title insurance companies and agents | |

|Stewart Information Services, Inc. |Stewart Title Guaranty Company |TX |

| |Stewart Title Insurance Company of New York |NY |

| |Monroe Title Insurance Corporation |NY |

| |Other small title insurance companies and agents | |

In the June 2009 meeting of the NAIC in Minneapolis, the NAIC Group Solvency Issues Working Group began consideration of responses to a short questionnaire to its constituent state regulators to determine if the events of 2007 to 2009 had uncovered any reason to amend the model Insurance Holding Company System Regulatory Act. As you might have predicted after the recent upheavals in the financial services industry, the state commissioners proposed tighter rules for holding companies in the June meeting. The suggestions for amending the act included authority for state insurance departments to audit holding companies or insurer affiliates, minimum capitalization requirements, and expanded disclosure requirements.[6]

It is enough to know that insurance companies can be owned by publicly held holding companies, and that insurance holding companies are subject to some regulation by state insurance regulators, as well as regulation by the Securities and Exchange Commission, etc. They are rated by Standard & Poor’s, Moody’s Investor Service and A.M Best, as well.

To search these services online, you must register on the rating service’s website, or you can usually call up SEC 10-K, 10-Q, other filings and company ratings by links in the holding company web pages.[7] The holding company websites also contain links to annual reports. However, the financial information in all of these reports consolidates the results from all of the subsidiaries of the holding company, including non-insurance subsidiaries with that of the parent, so you can’t isolate the financial information for an insurance subsidiary in its parent’s financials.

It should be no surprise that an insurance holding company can seek protection, or liquidation, in bankruptcy, as LandAmerica Financial Group demonstrated on November 26, 2008. Consequently, the financial strength of the parent can have a significant impact on its insurance subsidiaries, even if that impact is nothing more than a taint that drives all potential customers to other insurance companies. On the upside, a healthy insurance holding company with a troubled insurance subsidiary is in a position, and has an incentive, to rescue the troubled insurer with a contribution to its capitalization. If the holding company allows an insurance subsidiary to fail, the public may lose confidence in all of the holding company’s insurance subsidiaries. So, verifying the strength of the financials of your insurance company’s parent can reduce your risk of a title insurance company failure, at least in the near term, but it shouldn’t end your investigation. You should inspect the insurer’s financial situation as well, if you can.

Financial Analysis of Title Insurance Companies

As we begin this analysis of title insurance company insolvency, keep in mind that there are two basic risks to the consumer in a real estate transfer with title insurance. There is a basic long term “policy risk” that the policy has adequate coverage for the buyer’s needs, and that policy risk includes having the policy term co-extensive with the policyholder’s interest in the land. In addition, there is a short term “escrow risk” that funds deposited with a title insurer or its agent will not be lost in an insolvency that occurs between the placement of a title insurance order and the closing and disbursement of all funds. There may be a “post-closing” escrow of funds in some cases, but that is the exception.

If you have checked the holding company’s financials, is there any need to verify the financial strength of the insurance subsidiary? Yes. State regulators supervise a title insurer’s posting of reserves, and do not permit one title insurer to assume the risk of another (except by a reinsurance transaction). For example, regulators do not permit one title insurer to aggregate risk on policies issued by another company with an ALTA 12 Aggregation Endorsement, even if the two companies are affiliates or a parent and subsidiary. Coinsuring companies cannot share a title risk jointly and severally. Title insurer A cannot pay claims losses from its reserves for policies issued by title insurer B, even if title insurer B is an affiliate or subsidiary of title insurer A. If the consolidated financials of a holding company do not reveal the resources that each of its subsidiary insurers can apply to your transaction or loss, it is not enough to review the parent’s financials in the belief that all of its assets back up your client’s risk.

A title insurer’s policy liability is limited to the assets of the issuing title insurance company, so where can you find the financials of the individual title insurance company? As subsidiary companies, you cannot expect to find separate SEC filings for them. No 10-Ks, no 10-Qs, no glossy annual reports to shareholders; so where can you go to find financial information on the title insurance company?

The NAIC requires each insurance company to file an Annual Statement with each insurance regulator where the company is authorized to do business. The title insurance industry’s Annual Statement is commonly referred to as the “Form 9” and a bound copy has a dreadful orange-pink cover. You can request a copy from the title insurer, but most holding companies publish a PDF version online in their investor relations section of their homepages (listed in Footnote 7 on page 7). There is a limited print run on bound copies, so your best bet is to find a PDF version. The only thing you will miss is that awful cover.

These are statutory financial statements that follow an NAIC statutory model, not Generally Accepted Accounting Principles. The differences are not that great to an analyst. There are some new terms like “Surplus as Regards Policyholders” and “Admitted Assets,” but the statements begin with a balance sheet showing assets, liabilities, surplus and other funds. The Operations and Investment Exhibit shows the company’s income for the year and its effect on Surplus as Regards Policyholders. There are cash flow exhibits, notes to financial statements and many exhibits detailing the accounts in the main exhibits. The GAAP and statutory conventions are not all that different, so you should have no trouble following the information presented in a Form 9.

The ALTA publishes its industry research on title insurance industry annual and quarterly financial data on its website.[8] It includes a consolidation of the basic Form 9 schedules for the industry, for each family and copies of the schedules for each company. The “consolidations” include only statutory financials, so they include only the insurance company results for the industry and family statements. The year end Statistical Analysis is particularly useful for comparing the relative financial strength of title insurance families and individual title insurance companies with one another.

Title insurers are not rated by the major rating agencies like Standard & Poor’s, Moody’s Investor Service or A.M Best. They only rate the holding companies. For title insurance ratings you must go to Lace Financial[9], Demotech, Inc.[10] or Fitch Ratings.[11] You might also check to see if the state where the land is located has a guaranty fund to compensate insurance losses if a title insurer fails. In many states, guaranty funds do not cover all insurance lines.[12] The usual exceptions are annuities, life, disability, accident and health, surety, ocean marine, mortgage guaranty and, unfortunately, title insurance.[13] Those funds that do cover title insurance[14] may have a bias for compensating individual consumers instead of commercial consumers.

Other Management Techniques: Reinsurance and Coinsurance

What else can a title insurance consumer do to manage policy risk? By reinsuring or coinsuring a large transaction, the policy risk can be spread among two or more title insurers. This approach does nothing to ameliorate the “escrow risk;” so this is really a way to hedge long term policy risks.

A policy issuing title insurer (Lead Insurer) can share the risk of a transaction by selling portions of the risk to other insurers (Reinsurers) in a reinsurance transaction. Although reinsurance is designed to protect the Lead Insurer, it also protects the policyholder, but may increase the cost of a transaction.

Reinsurance allows the Lead Insurer to insure a large transaction that exceeds its risk retention limits by spreading the risk of a catastrophic loss with Reinsurers. Reinsurance agreements are arranged by each title company’s corporate reinsurance department. Reinsurance is a routine transaction for large real estate transactions that exceed one of three “retention limits” imposed on or by title insurance companies. “Retention” is the dollar amount of risk that the title insurer is allowed to retain without reinsuring the transaction. There are three retention limits

• Statutory Retention – Many states have formulas to determine the maximum title insurance liability a title insurance company may retain of a single risk before it must reinsure the excess.

• Self Imposed Retention – if the company is uncomfortable keeping the full statutory retention, it may set a lower acceptable figure.

• Customer Imposed Retention – If the customer is uncomfortable with the company’s self imposed retention, it can set an even lower amount.

The reinsurance contract is usually in the form of the ALTA Facultative Reinsurance Agreement. Facultative means the agreement applies to a specified transaction. There are also “reinsurance treaties,” but these are used by regional title insurers to reinsure all transactions in excess of a stated liability to increase their capacity, and reinsurance treaties have little to do with spreading risk in commercial transactions.

Under the terms of the ALTA Facultative Reinsurance Agreement, a Reinsurer, for consideration, agrees to indemnify the Lead Insurer (defined as the “ceder” in the agreement) for a defined portion of the insurance risk above the amount retained by the Lead Insurer. The Lead Insurer must pay the Reinsurers a premium in exchange for their assumption of their portion of the risk. If the Lead Insurer suffers a large loss under the policy, the Reinsurers agree to indemnify the Lead Insurer for their pro rata portion of the insurance risk.

What are the advantages of reinsurance?

• The Lead Insurer is liable for the full amount of a loss to its policyholder even if a Reinsurer is unable to contribute its share, so the policyholder gets two bites at the apple.

• The Reinsurers must contribute to losses paid even if the Lead Insurer is unable to pay its share of a loss. However, in this case the policyholder will be self insuring to the extent of the liability of the insolvent Lead Insurer because Reinsurers are liable only for their share. The Lead Insurer is generally required to retain a “primary retention” of $20 million before participating in a “secondary distribution” so an insolvent Lead Insurer exposes the policyholder

• The policyholder must only tender its claim to the Lead Insurer, but may tender a claim to the Lead Insurer and Reinsurers, or only to one or more Reinsurers because the ALTA Facultative Reinsurance Agreement provides for “direct access” to the Reinsurers by the policyholders,

• Within families, there is usually no charge for reinsurance.

Coinsurance is another risk spreading technique. Coinsurance differs from reinsurance in that policyholder has a direct contractual relationship with each coinsurer. Some customers require two or more title companies to issue policies together as coinsurers, where each policy is issued to the Insured for a defined portion of the total purchase price or loan amount. Title insurers never initiate a coinsurance arrangement, except as a last resort where the transaction is so impossibly large that a combination of coinsurance and reinsurance is the only way to insure the whole thing.

Coinsurance can be achieved by each coinsuring company issuing its own policy with an endorsement that establishes the risk distribution and shares, or the Lead Coinsurer can issue a policy and the coinsuring companies may issue an ALTA 23-06 “Coinsurance Endorsement.” It is also known as the “Me, Too” Endorsement and some older variations had very limited joint and several liability provisions for small claims, but most states would not permit those endorsements to be filed, so the ALTA 23-06 has no joint and several liability provision. With multiple policies or an ALTA 23-06, each company’s policy liability is limited to a specified percentage of any particular loss. Coinsurance originated to obtain the benefit of multiple title examinations, but duplicating title examinations has become very rare.

Coinsurance is not as convenient as reinsurance in a claim.

• In coinsurance, the insured receives no right to pursue one company on the policy liability under the other company’s policy. It must tender its claim to each company. If any company is unable to pay its share, the policyholder self insures that share.

• The coinsurers share the risk in proportions set by agreement. No coinsurer is liable for any portion of the other coinsurer’s policy liability, even if the companies are affiliates. Coinsurance doesn’t change the regulatory separation of companies.

• On large transactions, coinsurers may reinsure their share, so you may have both in a transaction.

Financial Reorganization or Liquidation of Title Insurance Companies

A title insurance company may not be a “debtor” under Chapter 7, Chapter 11 or any other section of the Bankruptcy Code.[15] An insurance company is subject to financial oversight by its domiciliary insurance regulator instead.

There are three stages in the process of insurance department oversight of a troubled insurer. “Supervision” applies when a company is out of compliance with the regulator’s requirements, but not seriously. A supervised company operates independently, but must meet specified targets to lift the supervision. “Rehabilitation” applies to more serious failings.[16] It may take a court order to impose rehabilitation. Companies in rehabilitation usually have a member of the regulator’s staff assigned to supervise the reorganization at the company’s headquarters. Finally, a company that cannot be rehabilitated is ordered into “liquidation.[17]” A liquidation of a title insurance company is scary because there are fifty states with differing procedures, and title insurers have both policy and escrow risks.[18] Most other lines of insurance have only policy risks, so insurance regulators are not familiar with escrow risks.

In addition, title insurance is a small industry compared to most other lines of insurance. Regulators spend little time on title insurance, so when they must liquidate a title insurer, the applicable state law may be a poor solution for policyholders, creditors and shareholders.

The Final Order and Liquidation for Guarantee Title and Trust Company issued by the Court of Common Pleas in Franklin County, Ohio is a reasonable solution for the liquidation of, say, an automobile insurance company, but a poor fit for a title insurer. It is lengthy, but I have selected some of its more sobering sections in the following quote:

18. The Liquidator shall forthwith take and secure possession of all assets and property of, pertaining or related to Defendant Guarantee, of every kind whatsoever and wherever located, whether in possession of Defendant Guarantee or its current or former owners, officers, directors employees, consultants, attorneys, agents, parents, subsidiaries, affiliated corporations (including. . . ) or those acting in concert with any of these persons, or any other persons, including, but not limited to, offices, contracts, deposits, stocks, securities, rights of action, accounts, documents, papers, evidences of debt, bonds, debentures, mortgages, furniture, fixtures, office supplies, safe deposit boxes, claims files, underwriting files, legal/litigation files, agent files, closing files, all books and records, all computers, computer networks and all computerized and electronically stored data, wherever located and regardless of ownership issues and administer them under the general supervision of the Court.

. . .

20. The Liquidator is directed to collect and liquidate all Property and all other property and assets of Defendant Guarantee, including but not limited to, any funds held by agents, brokers, reinsurers, reinsurance intermediaries, reinsurance pools, solicitors, service representatives, or others under agency contracts or otherwise, which are due and unpaid to Defendant Guarantee, including premium, agent’s balances and agent’s reserve funds, reinsurance recoveries and “funds held” by reinsurers.

21. All agents, agencies and brokers of Defendant Guarantee are ordered to cease issuing policies and commitments on behalf of Defendant Guarantee.

. . .

31. No civil action shall be commenced against Defendant Guarantee or the Liquidator, whether in this State or elsewhere, nor shall any such existing actions be maintained or further prosecuted as against Defendant Guarantee after entry of this Order. In cases in which a claimant has tendered the defense of a title defect claim to Defendant Guarantee or named Defendant Guarantee as a party in litigation for this purpose, Defendant Guarantee shall not defend or pay the costs of defending title defect claims. Policyholders must bear the cost of defense and/or curing their title defects and, in doing so, should take appropriate action to mitigate their claim exposure. The expenses for curing covered defects may be submitted with appropriate documentation to the Liquidator as a proof of claim as set forth in R.C. 3903.36, et seq. and paragraph 40 of this Judgment and Order.

. . .

33. All policies, commitments, bonds and evidences or certificates of insurance issued by or in the name of Defendant Guarantee shall cancel and terminate pursuant to R.C. 3903.19[19] upon the occurrence of the earliest or lesser of the following:

(a) a period of thirty (30) days from the Date of entry of this Judgment and order, at 12:01 a.m. local time of the insured or policyholder of such direct commitment, policy or certificate of insurance; or

(b) the expiration date of the commitment or policy coverage or certificate of insurance; or

(c) the date when the insured or policyholder or the issuer of any commitment has (i) replaced the insurance coverage or the commitment with equivalent insurance in another insurer, or (ii) has effectuated cancellation of the policy, commitment or certificate of insurance or (iii) has otherwise terminated the policy, commitment or certificate of insurance; or

(d) the date the Liquidator has effectuated a transfer of the policy obligation pursuant to R.C. 3903.21(A)(8); or

(e) such other date set by this Court.

All policies and commitments as to which a notice of cancellation was given, on or prior to the date of the entry of this Judgment and Order shall stand cancelled as of the cancellation date specified in the notice, unless said cancellation date is beyond a period of thirty (30) days from the Date of entry of this Judgment and Order, and in that event subparagraph (a) above applies.

. . .

38. The Liquidator shall notify all persons which Defendant Guarantee’s books and records have, or may have claims against Defendant Guarantee, its property or assets, to present and file with the Liquidator proper proofs of claim in the form set forth in Exhibit A on or before 4:30 p.m. Eastern Daylight Time (United States) on October 27, 2009. said notice by the Liquidator shall specify 4:30 p.m. Eastern Daylight Time (United States) on October 27, 2009 to be the Absolute Final Bar Date by which a proof of claim may be received by the Liquidator for purposes of participating in any distribution of assets that may be made on timely filed claims which are allowed by the Liquidator in these proceedings. Said notice shall also specify that claimants must submit to the Liquidator sufficient supporting information to document their claim no later than the Absolute Final bar Date of 4:30 p.m. Eastern Daylight Time (United States) on October 27, 2009, or their claim will be foreclosed and forever barred. Further, the Liquidator will reject any attempted filing of a claim after the Absolute Final bar Date and will return the claim to the person attempting to file it, advising them that the claim will not be considered by the Liquidator and shall be treated as if no claim was filed, and that the claimant attempting to present such a late-filed claim after the Absolute Final Bar Date shall not be entitle to further consideration. Further, the Liquidator will reject all requests for Proof of Claim Forms that are received after the Absolute Final Bar Date.

39. The Liquidator shall also provide notice by publication to all persons who have, or may have claims against Defendant Guarantee or against its insureds or policyholders, by causing a notice to be published once a week for two (2) consecutive weeks in the following newspapers of general circulation:

Arizona: Arizona Republic (Phoenix)

Illinois – Chicago Tribune

Kansas – Kansas City Star

Michigan – Detroit News/Detroit Free Press

Ohio – The Columbus Dispatch and the Cincinnati Enquirer

Pennsylvania – The Philadelphia Enquirer

and such other newspapers as the Liquidator may deem advisable. . . .

That’s a long quote, but the prejudice of an order like this to a policyholder is difficult to overstate. How does this order affect a policyholder’s “policy risk” and “escrow risk?”

The Ohio Judgment and Order substantially affected the policyholder’s policy risk by unilaterally terminating the policy coverage thirty days after its entry. Title insurance should last as long as the policyholder has an interest in the land. Residential owners who bought Guarantee Title loan policies to insure their mortgage lender may find themselves in default on their mortgages through no fault of their own because the loan policy was cancelled by the Judgment and Order. I can imagine the sparks if HUD asserts a claim on a Guarantee Title policy next month, only to discover that it has missed a deadline that was poorly communicated to it.

Although it may be meaningless with an insurer that was $5.5 million under water when liquidation was imposed, I wonder what the Liquidator would do with the insurance company’s reserves in excess of its needs, if they exist? Title insurance reserves should be designed to protect each year’s issue of policies for twenty years of a “claims tail”, so there should have been a significant excess if the regulator enforced the rules. Most states plan for a twenty year “runoff” on title insurance claims if a company is liquidated. The Judgment and Order makes no provision for an excess.

Even more pertinent, this order is vague about how cash escrows for real estate purchases will be administered. If one deposited an escrow with Guarantee Title itself, it appears the customer must file a proof of claim to get the money back. There is no protection if the party is liable for damages for its failure to timely close its purchase transaction. Perhaps escrow depositors could persuade the court to order the Liquidator to return escrow deposits upon proof of ownership of the escrowed funds, but I have seen no evidence of that.

What if an agent holds an escrow and issued a Guarantee Title commitment? Must the agent pay the escrow over to the Liquidator under this order? I would argue that it is not obligated to pay over the escrow, but I have no authority for that position. What if the agent is a dual agent and it can close the transaction with its other title insurance company? I think the argument for withholding the escrow from the Liquidator becomes stronger on these facts.

Ohio is the worst case scenario. If we examine liquidation in some of the other states we find procedures that improve the policyholders’ prospects. There is no need for a fifty state survey of insurance liquidation remedies. Looking at the list of title insurance families on page 6, it appears that California and Nebraska are the significant states where title insurance companies are domiciled.

California, home to Fidelity National, First American, Ticor, Security Union, United Capital and United General may have the best solution for a title insurance liquidation. To understand the California process, a few definitions are necessary. When a policy is issued, the title insurer must set up an “unearned premium reserve” for that policy. This unearned premium reserve is amortized into income for the title insurer at a rate set by statute. The amortization period is usually 20 years, and it may be a straight line, accelerated or even a lump sum amortization. Unlike most other lines of insurance, a title insurer may not refund unearned premium because the coverage continues indefinitely, even if the policyholder sells the land. In addition to the unearned premium reserve, companies must set up a “claims loss reserve” for each claim it accepts. Claims loss reserves may be adjusted during the life of the claim if the company decides that the reserve is too high, or too low. California Insurance Code §12385[20] is a liquidation procedure specifically drafted for title insurance companies. It allows the Insurance Commissioner to take as much of the unearned premium reserve as it needs to reinsure the liquidating companies policy portfolio with another title insurance company. Claims arising after the portfolio is reinsured are the liability of the reinsuring company, so a policyholder’s policy risk is minimized. If there is an excess in the unearned premium reserve after the portfolio is reinsured, the excess is transferred into the general assets of the company. The insurance commissioner can use the claims loss reserves and the general assets to resolve the claims that were pending when the portfolio was reinsured.

Even California is vague about the escrow risk, but real estate transactions in California flow through “escrow companies.” Escrow companies are regulated by the California Commissioner of Financial Institutions, not by the Commissioner of Insurance. The California Financial Code provides a procedure for liquidating escrow companies at CA Finance Code §17635, et seq. However, there is nothing in the chapter that suggests escrow deposits in California escrow companies will be treated any differently that any other unsecured debt of the liquidating escrow company.

These California domiciled title insurance companies will also have escrows on their own account in those states that do not have regulated escrow companies like many of the Pacific coast states do. If a California title insurer liquidates, we will have to see how the Insurance Commissioner treats the escrow deposits.

Nebraska, home to Chicago Title, Commonwealth and Lawyers Title has a more flexible system than Ohio, but it is not as specific as the California process. Nebraska Rev. Stat. §44-4821 grants broad powers to an insurance liquidator, but it is not focused on a title insurance liquidation. Fortunately, it is supplemented by §44-1989 that modifies the liquidation provisions for title insurance.[21] In addition, we have the experience from the rehabilitation of Commonwealth Land Title and Lawyers Title in November and December 2008 that gives some guidance on how this state with the second largest concentration of title insurers will handle a liquidation.

In the December 16, 2008 bankruptcy hearing on the proposed sale of the two title insurers, the Nebraska Insurance Director issued her ultimatum that the two companies must be sold to solvent buyer by the next week, or the Insurance Department would place the two companies into liquidation and “run off” their liabilities. The insurance department felt compelled to place the companies into liquidation because it had already placed them into rehabilitation in November and they had lost most of their business after their parent LandAmerica Financial Group, Inc. filed for bankruptcy protection. The “burn rate” of the title insurer’s assets was frightening with only a trickle of income to offset the two companies’ operating expenses.

As I understood the plan, the insurance department would terminate insurance operations and use the general assets of the insurance companies (including the unpaid premium reserves and the claims loss reserves) to pay claims as they were made against the liquidated companies. There was no suggestion that the insurance department would reinsure or sell the policy liabilities to another title insurer. If the costs of administration, losses and litigation expenses outstripped the assets during the run off, latecomers might find no funds to satisfy their claims.

However, the Nebraska statute, specifically addresses cash escrow deposits, giving escrow depositors the status of secured creditors, not general creditors.[22] It may take some time to recover escrow moneys deposited with an insolvent title insurer, but the prospects of recovery under the Nebraska act appear better than they were in Ohio.

After the experiences in Ohio and Nebraska, what can we conclude? It does not appear that a title insurance customer can completely avoid trouble if its insurer is liquidated, so it is worth the trouble to pick a sound company at the time a title insurance order is made. General liquidation statutes do not suit title insurers well, but even specific liquidation statutes like California’s and Nebraska’s leave title insurance consumers somewhat exposed, but nor more exposed than if insurance companies could be debtors in bankruptcy.

Title Insurance Agents and Approved Attorneys

A title insurance agent is usually an independent company that has a contract with a title insurance company to issue the title insurance company’s policies on real estate transactions. Many independent title insurance agents have agency contracts from two or more title insurance companies. A full service agent has the authority to search and examine the title, underwrite the risk within its authority limit, and issue the policy. The agency contracts usually specify a limited agency, only for the purpose of issuing title insurance policies. Strictly speaking, an agency contract does not encompass the closing and escrow processes.

Of course, some agencies are owned and operated by title insurance holding companies or even the title insurance company, itself. However, as separate entities, they will have a contract that is usually indistinguishable from the contracts given to independent agents.

Approved attorneys are lawyers in the general practice of law whose title certifications will be accepted by a title insurance company. The approved attorney with a real estate conveyance can certify the title to the title company, which will then issue a policy after the approved attorney closes the transaction. It is not as formal a relationship as an agency, and, although the approved attorney searches and examines the title; the title insurance company actually underwrites the risk and issues the policy, delivering it to the approved attorney.

Many title insurance orders are placed with title insurance agents and approved attorneys, but what happens if an agent or approved attorney becomes insolvent? In most states, the insolvent agent or approved attorney can seek protection under the Bankruptcy Code because they are not excluded by 11 U.S.C. §109 from being a debtor in bankruptcy. If a transaction has closed and a policy was issued, the insolvency should have no effect on the policyholder’s policy risk. If the agent or approved attorney stops operations after closing, but before issuing a policy, the insured can demand a policy from the title insurance company based on the title insurance commitment. Policy risk is relatively simple because it is the liability of the title insurance company, not the agent or approved attorney.

The escrow risk is not so simple. The agency contract does not extend to the closing and escrow operations of the title insurance agents. Agents are not required to maintain reserves for losses nor do they have capitalization requirements like insurance companies do. The closing and escrow functions of an approved attorney are functions included within his or her practice of law. As a result, most title insurance consumers would be leery of depositing escrow funds with an agent or approved attorney unless the consumer can get an undertaking by the title insurance company that issues the policy to guarantee that the funds deposited will not be lost and that the agent or approved attorney will comply with the closing instructions from the parties. Some sort of protection is necessary if agents are to be a viable source of title insurance for customers.

The solution is the Closing Protection Letter, an ancillary form of insurance offered by title insurance companies, usually at no cost, when one of its title insurance policies has been issued by an agent or approved attorney. The American Land Title Association adopts forms for Closing Protection Letters. Currently there are three forms adopted by the ALTA. The basic letter insures serial transactions by an agent or approved attorney that protect mortgagees, purchasers or lessees of interests in land. A similar form has an amount limitation and a warning to seek a special letter if the transaction exceeds that amount. A third form of letter is used for single, specific transactions. The insuring provisions of the ALTA Closing Protection Letter (1/1/2008) provide:

Blank Title Insurance Company (the “Company”) agrees, subject to the Conditions and Exclusions set forth below, to reimburse you for actual loss incurred by you in connection with closings of real estate transactions conducted by the Issuing Agent or Approved Attorney, provided:

A) title insurance of the Company is specified for your protection in connection with the closing; and

B) you are to be the (i) lender secured by a mortgage (including any other security instrument) of an interest in land, its assignees or a warehouse lender, (ii) purchaser of an interest in land, or (iii) lessee of an interest in land

and provided the loss arises out of:

1. Failure of the Issuing Agent or Approved Attorney to comply with your written closing instructions to the extent that they relate to (a) the status of the title to that interest in land or the validity, enforceability and priority of the lien of the mortgage on that interest in land, including the obtaining of documents and the disbursement of funds necessary to establish the status of title or lien, or (b) the obtaining of any other document, specifically required by you, but only to the extent the failure to obtain the other document affects the status of the title to that interest in land or the validity, enforceability and priority of the lien of the mortgage on that interest in land, and not to the extent that your instructions require a determination of the validity, enforceability or the effectiveness of the other document, or

2. Fraud, dishonesty or negligence of the Issuing Agent or Approved Attorney in handling your funds or documents in connection with the closings to the extent that fraud, dishonesty or negligence relates to the status of the title to that interest in land or to the validity, enforceability, and priority of the lien of the mortgage on that interest in land.

If you are a lender protected under the foregoing paragraph, your borrower, your assignee and your warehouse lender in connection with a loan secured by a mortgage shall be protected as if this letter were addressed to them.

It is apparent that the coverage is limited. It only applies to a failure to follow the closing instructions or fraud to the extent that they relate to the title or lien of the mortgage. If an agent violates the lender’s closing instructions by depositing funds with an institution that is not approved by the lender, the lender may have a claim under the letter if the funds are lost in an insolvency of the unapproved institution. However, if there is no violation of the closing instructions in the selection of the escrow deposit holder, its insolvency will not trigger a claim under the Closing Protection Letter. If the title insurance company has the liberty to select the depository institution for an escrow of funds under the closing instructions, and that institution fails, it will be liable for the loss nonetheless, so escrows placed with title insurance companies are safer than escrows placed with agents with a Closing Protection Letter.

In addition, the letter does not cover a seller who may expect a substantial payment for the equity in the property as a result of the sale. Many commercial customers avoid the problem with depositing funds with agents by using a national commercial office or business unit of the title insurer to place orders with direct (company) or agency offices. The national commercial office or business unit will hold the cash escrows and disburse them according to the closing instructions so the customer does not have to risk placing an escrow deposit with an agent. There is no additional cost for employing a national commercial office or business unit, and they can add many efficiencies to a transaction.

Conclusion

This may seem scary enough to set the scene for Halloween, but we should not miss the point that with all of the losses in real estate in the past two years, losses caused by distressed title insurance companies have been quite limited. The regulatory structure of the NAIC deserves a lot of credit for keeping most of us afloat. Perhaps the pointers in this paper will help you in your upcoming transactions.

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[1]

ID=2815

[2] Rehabilitator’s Status Report Regarding the Closing and Funding of Sale of Commonwealth Land Title Insurance Company, Case No. CI 08-5131, District Court of Lancaster Co., Nebraska dated January 7, 2009 and Rehabilitator’s Status Report Regarding the Closing and Funding of Sale of Lawyers Title Insurance Corporation, Case No. CI 08-5132, District Court of Lancaster Co., Nebraska dated January 7, 2009

[3] http//Portals/0/ALPS%20Southern%20Title%20Press%20Release%206%2011% 2009.pdf

[4]

[5] The state designated after each title insurance subsidiary in this table is the domiciliary state for that company. It acts as the company’s primary insurance regulator.

[6] See, Dunham, et al., Debevoise & Plimpton Client Update on NAIC 2009 Summer National Meeting, June 22, 2009, ;

Campbell, et al., Willkie Farr & Gallagher Client Memorandum on NAIC Highlights-Summer 2009 National Meeting, ;

PricewaterhouseCoopers, Insurance Industry NAIC Meeting Notes, June 22, 2009, .

[7] The Fidelity National Financial, Inc. -

First American Corporation -

Old Republic International Company -

Stewart Information Services, Inc. -

[8]

[9]

[10]

[11]

[12] For information on property/casualty insurance guaranty funds, generally, see, The National Conference of Insurance Guaranty Funds,

[13] See, Ne. Rev. Stat. §§ 201 & 2402. Indeed, Oh. Rev. Stat. §3955.05 lists title insurance first in its list of insurance lines excepted from participation in the Ohio Property and Casualty Guaranty Association created in Chapter 3955. If Ohio had a guaranty fund, it may have eased the burden on the Guarantee Title & Trust policyholders.

[14] Texas Title Insurance Guaranty Association -

[15] Sec. 109. Who may be a debtor . . .

(b) A person may be a debtor under chapter 7 of this title only if such person is not . . . (2) a domestic insurance company. . .

(d) Only a railroad, a person that may be a debtor under chapter 7 of this title (except a stockbroker or a commodity broker), and an uninsured State member bank, or a corporation organized under section 25A of the Federal Reserve Act, which operates, or operates as, a multilateral clearing organization pursuant to section 409 of the Federal Deposit Insurance Corporation Improvement Act of 1991 may be a debtor under chapter 11 of this title.

[16] The following are some of the standards set by the Nebraska statutes for rehabilitation:

44-4812 Grounds for rehabilitation

44-4812 Grounds for rehabilitation. The director may apply by petition to the district court of Lancaster County for an order authorizing him or her to rehabilitate a domestic insurer or an alien insurer domiciled in this state on any one or more of the following grounds:

(1) The insurer is in such condition that the further transaction of business would be hazardous financially to its insureds or creditors or the public;

(2) There is reasonable cause to believe that there has been embezzlement from the insurer, wrongful sequestration or diversion of the insurer's assets, forgery or fraud affecting the insurer, or other illegal conduct in, by, or with respect to the insurer that if established would endanger assets in an amount threatening the solvency of the insurer;

…

(7) Without first obtaining the written consent of the director, the insurer has transferred or attempted to transfer, in a manner contrary to the Insurance Holding Company System Act or sections 44-224.01 to 44-224.10, substantially its entire property or business or has entered into any transaction the effect of which is to merge, consolidate, or reinsure substantially its entire property or business in or with the property or business of any other person;

(8) The insurer or its property has been or is the subject of an application for the appointment of a receiver, trustee, custodian, conservator, or sequestrator or similar fiduciary of the insurer or its property otherwise than as authorized under the insurance laws of this state, such appointment has been made or is imminent, and such appointment might oust the courts of this state of jurisdiction or might prejudice orderly delinquency proceedings under the Nebraska Insurers Supervision, Rehabilitation, and Liquidation Act; . . . .

[17] The NAIC adopted a Insurer Receivership Model Act in 2005, but no bill to enact the model act has been submitted in a state legislature.

[18] The Nebraska grounds for liquidation are brief:

44-4817 Grounds for liquidation. The director may petition the district court of Lancaster County for an order directing him or her to liquidate a domestic insurer or an alien insurer domiciled in this state on the basis:

(1) Of any ground for an order of rehabilitation as specified in section 44-4812 whether or not there has been a prior order directing the rehabilitation of the insurer; [see, note 1615 on page 9].

(2) That the insurer is insolvent; or

(3) That the insurer is in such condition that the further transaction of business would be hazardous, financially or otherwise, to its insureds or creditors or the public.

[19] 3903.19 Effect of liquidation order on policies.

(A) All policies, other than life or health insurance or annuities, in effect at the time of issuance of an order of liquidation shall continue in force only for the lesser of any of the following:

(1) A period of thirty days from the date of entry of the liquidation order;

(2) The expiration of the policy coverage;

(3) The date when the insured has replaced the insurance coverage with equivalent insurance in another insurer or otherwise terminated the policy;

(4) The liquidator has effected a transfer of the policy obligation pursuant to division (A)(8) of section 3903.21 of the Revised Code.

(B) An order of liquidation under section 3903.18 of the Revised Code terminates coverages at the time specified in division (A) of this section for purposes of any other section of the Revised Code.

(C) Policies of life or health insurance or annuities shall continue in force for such period and under such terms as is provided for by any applicable guaranty association or foreign guaranty association.

(D) Policies of life or health insurance ….

[20] If a title insurer shall at any time become insolvent, be in the process of liquidation or dissolution or be in the possession of the commissioner, all amounts set aside in the unearned premium reserve shall be used and applied as follows:

(a) Such amount up to the whole of the reserve as is necessary may be used with the written approval of the commissioner to pay for reinsurance of the liability of such title insurer under all outstanding policies and contracts of title insurance or reinsurance as to which claims for losses by holders thereof are not then pending. The amount of the unearned premium reserve not so used shall be transferred to the general assets of the title insurer to be held and distributed subject to the limitations imposed by this section.

(b) The assets of a title insurer other than the unearned premium reserve shall be available to pay claims for losses sustained by holders of policies then pending or arising up to the time reinsurance is effected. In the event that claims for losses are in excess of such other assets of a title insurer, the excess of such claims, when established, shall be paid pro rata out of surplus assets attributable to the unearned premium reserve to the extent of such surplus, if any.

[21] 44-1989 Liquidation, dissolution, or insolvency.

(1) The Nebraska Insurers Supervision, Rehabilitation, and Liquidation Act shall apply to all title insurers subject to the Title Insurers Act except as otherwise provided in this section. In applying the provisions of the Nebraska Insurers Supervision, Rehabilitation, and Liquidation Act, the court shall consider the unique aspects of title insurance and shall have broad authority to fashion relief that provides for the maximum protection of the title insurance policyholders.

(2) Security and escrow funds held by or on behalf of a title insurer shall not become general assets and shall be administered as secured creditor claims as defined in the Nebraska Insurers Supervision, Rehabilitation, and Liquidation Act.

(3) Title insurance policies that are in force at the time an order of liquidation is entered shall not be canceled except upon a showing to the court of good cause by the liquidator. The determination of good cause shall be within the discretion of the court. In making this determination, the court shall consider the unique aspects of title insurance and all other relevant circumstances.

(4) The court may set appropriate dates that potential claimants must file their claims with the liquidator. The court may set different dates for claims based upon a title insurance policy than for all other claims. In setting dates, the court shall consider the unique aspects of title insurance and all other relevant circumstances.

(5) As of the date of the order of insolvency or liquidation, all premiums paid, due, or to become due under title insurance policies of the title insurer shall be fully earned. It shall be the obligation of title insurance agents, insureds, or representatives of the title insurer to pay fully earned premiums to the liquidator or rehabilitator.

[22] Ne. Rev. Stat. §44-1989(2), supra, in note 2120 on page 16.

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