For those who wish to be politically correct, these evolving adaptations in the real estate industry are now euphemistically referred to as "affiliated business arrangements." We believe that the practice of soliciting captive title business during the loan application process is inherently adverse to the interests and welfare of the consumer in several aspects. Unfortunately, this practice has been sanctioned by the government, giving lenders and brokers the shield of legality to engage in this unethical practice.
Statewide Title, Inc. has been unequivocal in its support of the role of the attorney in the closing process, as typified in North Carolina. Objective statistics consistently demonstrate that our form of closings produces lower closing costs to the consumer for title assurance as well as for attorney’s fees. We believe that this is the result of the greater accountability and professionalism in the attorney-client relationship. This relationship results in fewer errors, resulting in fewer claims, and lower losses, and therefore lower title insurance premiums.
Affiliated business arrangements erode this relationship by dictating the selection of the title insurer--without providing the consumer with an informed choice. The attorney has traditionally been the source of information for a consumer’s choice of insurer. Because of our laws here in North Carolina, attorneys do not have a financial interest in the outcome of that choice (i.e., they are not allowed to own any part of title companies to which they send business).
If the choice of insurer is based on objective criteria, it will typically be the result of a company’s financial strength, performance, service and claims philosophy. Despite the perception that title insurance is somewhat akin to a widget, title companies are not all alike. There are very real differences in these aspects, and these differences will have an impact on the client’s welfare in the event of a claim. Every week we receive calls from consumers telling us they never understood the importance of title insurance until the unexpected occurs: they get a Notice of Claim of Lien, a neighbor blocks access, a now-disbarred attorney failed to payoff a prior deed of trust. How these claims are handled, and the amount of money available to pay or defend those claims, has an enormous impact on an insured’s peace of mind. Attorneys who freely choose for their clients financially stable and customer-service oriented title companies are fulfilling their ethical obligations to zealously represent clients’ best interests.
Lenders, on the other hand, have a very clear interest in forcing the consumer’s policy to be written by a captive company. Because of loan fees, title insurance premiums, and the broad protection contained in a loan policy, they have a financial interest at stake in seeing the loan close even if it is not in the client’s best interest. This creates great likelihood of a conflict of interest, since the homeowner seldom is provided the protection a lender receives with regard to disclosed defects. A title insurer’s risk on a lender’s policy of insurance is lower than the risk on an owner’s policy. The risk is lower because there is rarely any liability to a lender unless the loan goes into foreclosure proceedings and a defect is discovered that delays or makes impossible a sale.
Liability for owner’s policies, on the other hand, is far more extensive for the simple reason that claims filed by owners are more frequent and, often, more costly to cure. Any covered loss suffered by an owner, be it big or small, can result in a claim. This risk differential often results in insurers affording lenders coverage over certain title matters that will not be made available in an owner’s policy. Suppose that an underwriting decision is made by a captive company to afford a lender, and not an owner, coverage over a non-standard title matter. If a successful claim arises, the lender will be paid in full by the title insurer under the policy, or by the borrower under the note. Either way, the lender gets its money. If the owner has to pay to cure the defect, the owner has to absorb the loss and is still obligated to pay the lender under the note. The owner is then angry when calling the closing attorney or the title insurer. The argument for liability goes as follows: if the lender had been unable to secure coverage, the loan would not have gone through, and the owner would not have purchased the property. The owner will claim that the assumption is reasonable--that if the lender was protected, so was the owner. Because of our society’s deep-pocket syndrome, this will be a compelling argument in front of any judge or jury.
In the typical course of events when a lender is soliciting captive title business, the attorney gets a call from a loan officer after the HUD-1 has been sent for review. The loan officer wants to know why ABC title insurance agency isn’t shown on the HUD, certain that the loan closing package contained specific directions that the attorney use ABC. The loan officer then goes on to tell the attorney that the borrower selected ABC already. The attorney is faced with two choices: comply with the request in order to smooth ruffled feathers and continue to get business from that lender, or refuse to comply and risk losing all business from that lender. We will address some practical solutions to this dilemma later in the article.
Assume for the sake of argument that the attorney did what the loan officer told her to do. When one considers modern trends, it will not be surprising if the closing attorney is dragged into the litigation under some theory that the attorney has a responsibility to advise the client of the potential conflict that was created before the attorney was involved. The client will want to know why the attorney did not stop the closing to explain the implications of exceptions on the title commitment. Considering the propensity for consumer activism, and combined with deep-pocket liability syndrome, it may not be prudent to wager on the outcome of such litigation. We have heard apocryphal stories of attorneys complying with lender directives to use a captive company solely for fear of the lender steering business to more compliant firms, even when the attorney does not believe the captive company will serve the client well and when the attorney gets little or no customer service from the company.
We doubt that this situation occurs very often. Most attorneys take their professional responsibility too seriously and obviously comply because they have made an independent judgment that the client’s interest will be adequately served by the lender’s title insurance agency. Yet the concern for lost business is a very real one among real property practitioners. While this concern may not, and should not, be a deciding factor in insurer choice, its influence, nonetheless, casts doubt on attorneys’ independence when giving advice. In the event of a loss involving an affiliated business relationship where the lender is covered and the owner is not, a decision based upon the attorney’s self-interest will always create greater exposure to liability.
Clients, when questioned, sometimes report that they would rather leave the "choice" -- if you can call it that -- in place rather than risk incurring a lender’s dissatisfaction and thereby unfavorably influencing lending decisions. This is, in all probability, the situation in most clients’ minds even if it is not articulated as such. We have heard such reported even in the context of sophisticated commercial clients. Where does that leave the typical consumer who is relying on the bank for financial advice? After all, how many consumers truly understand that the lender has its own self-interest, and not the borrower’s self-interest, at heart? A loan officer soliciting a self-serving business relationship during the loan application process has the appearance of economic coercion of the worst sort.
If an attorney were to solicit a client to invest in some personal enterprise with no more disclosure than lenders provide, it would be grounds for disciplinary action. We believe that lenders with self-interested solicitations should make their pitch, if at all, after the loan has been formally approved. Thus, they would avoid the appearance of improper influence. Attorneys are ethically obligated to avoid not only impropriety, but also the appearance of impropriety; why should they stand back and allow another highly-regulated industry to engage in such unethical behavior?
Insurers often feel compelled to participate in these arrangements in order to remain competitive and insure economic survival in a rapidly changing environment. This belief can result in negotiating leverage that results in contracts providing minimal profitability for the insurer. When this occurs, tighter claims management and more aggressive loss recovery policies will result. This creates further dissatisfaction among owners already struggling with the inconvenience, worry and stress of a title claim. We all know that it is the closing attorney that typically endures this dissatisfaction. Aggressive loss recovery activities by an insurer often result in economic losses for attorneys also, and certainly in the loss of good will by clients.
Lenders are increasingly making demands upon title insurers to provide affirmative coverage over title defects, regardless of whether providing such coverage might be prudent risk underwriting. As lenders become more closely involved in the underwriting process, as in the case of controlled business arrangements, these demands will further escalate and tend to be met.
At some point, one can envision the argument being made successfully that attorneys’ opinions on title are unnecessary and that title insurance should be underwritten, and premiums accordingly based, simply on an actuarial loss basis. States that have excluded attorneys from the process dominate the top half of the cost statistics for title assurance. It is extremely reasonable to conclude that if such becomes the practice, consumers will have to bear the cost of the increased losses that will, of necessity, result from attorneys being excluded from the title assurance process.
Returning to the dilemma referred to earlier in the article, it is Statewide Title’s opinion that the attorneys who choose to resist coercion by ABAs and independently select a title insurance company to use for the clients are fulfilling their ethical obligations to their clients. We also understand the battle that attorneys can find themselves in when dealing with an insistent loan officer, and we’d like to offer some ammunition.
First, remind the loan officer that you cannot and will not be a party to any loan transaction in which the protections afforded by RESPA are being violated; specifically, the Section 8 prohibitions on kickbacks. Controlled or "affiliated" business arrangements have been sanction by RESPA so long as certain conditions are met; namely, (1) there is written disclosure, (2) there is no required use and (3) the only thing of value is a return on ownership interest (Sec. 3500.15(b)).
The specific provisions that come into play when determining whether an ABA is complying with the law can be found in 12 USC §2607 and Reg. X 3500.14(b), "Prohibitions against kickbacks and unearned fees":
"(a) Business referrals
No person shall give and no person shall accept any fee, kickback, or thing of value pursuant to any agreement or understanding, oral or otherwise, that business incident to or a part of a real estate settlement service involving a federally related mortgage loan shall be referred to any person.
(b) Splitting charges
No person shall give and no person shall accept any portion, split, or percentage of any charge made or received for the rendering of a real estate settlement service in connection with a transaction involving a federally related mortgage loan other than for services actually performed."
12 USC 2602(2) defines a "thing of value" very broadly. A partial list includes: monies, things, discounts, salaries, commissions, fees, duplicate payments of a charge, stock, dividends, distributions of partnership profits, franchise royalties, credits representing monies that may be paid at a future date, the opportunity to participate in a money-making program, retained or increased earnings, increased equity in a parent or subsidiary entity, special bank deposits or accounts, special or unusual banking terms.
One of the best arguments an attorney can make to a loan officer is that because the loan officer is receiving a commission for the "referral" to the in-house title agency, the loan officer is receiving a kickback or unearned fee that violates Section 8. The officer is providing no service to the borrower or to the title company in exchange for the commission. HUD has tripled its enforcement staff and has been increasingly active in shutting down violators, including violators right here in North Carolina. Merely mentioning to report the loan officer to HUD should be enough to make the loan officer back down – but the attorney must be prepared to follow through with that call.
In addition, the attorney should state that he or she will not be a party to a transaction in which it is implied or states that the bank will continue to refer closings to the attorney only if the attorney uses the captive title agency. Something as informal as an "agreement or understanding" that settlement business would be referred can be a violation of the anti-kickback provisions of RESPA . Nothing need be in writing for the HUD staff to determine that an agreement was made. An agreement or understanding need not even be verbalized, and in fact, an "agreement or understanding" may be established by a pattern, practice or course of conduct. Reg X 3500.14(e).
Should the loan officer be insistent, the attorney should call to HUD. RESPA violations can result in both civil and criminal penalties. In a criminal case a person who violates Section 8 may be fined up to $10,000 and imprisoned up to one year. In a civil case, a violator is liable for treble damages, not just the amount of the fee at issue.
On a related note, Statewide Title has also been made aware that some home sellers – notably developers – are sending closing attorneys instructions as to what title company to use and what premium rate must be charged. RESPA addresses this issue as well, in Section 9, "Seller Required Title Insurance." Section 9 prohibits a seller from requiring the buyer to use a particular company, either directly or indirectly, as a condition of sale. Buyers may sue a seller who violates this provision for an amount equal to three times the premium charged.
If relying on RESPA isn’t enough, attorneys may also cite North Carolina law. . G.S. 75-17 provides that no lender can require the use of a particular title insurer . In addition, G.S. 75-27-5 provides an anti-kickback prohibition similar to that in RESPA but deals specifically with title insurance:
"58-27-5. Prohibition against payment or receipt of title insurance kickbacks, rebates, commissions and other payments.
(a) No person or entity selling real property, or performing services as a real estate agent, attorney or lender, which services are incident to or a part of any real estate settlement or sale, shall pay or receive, directly or indirectly, any kickback, rebate, commission or other payment in connection with the issuance of title insurance for any real property which is a part of such sale or settlement; nor shall any title insurance company, agency or agent make any such payment.
(b) Any person or entity violating the provisions of this section shall be guilty of a Class 2 misdemeanor which may include a fine of not more than five thousand dollars ($5,000)."
To the loan officer who argues that the borrowers freely selected the bank’s title agency, the attorney is free to – and should – follow up with the borrowers to ensure that they actually understand what title insurance is. Did the loan officer explain fully what title insurance protects against, and the important differences between insured title and clear title? If the loan officer didn’t explain title insurance, the borrower didn’t make an informed decision. If the loan officer did explain title insurance and the differences between clear title and insured title, it’s entirely possible that the loan officer has engaged in the unauthorized practice of law.
Finally, there is nothing to stop an attorney from presenting the facts to clients at closing and making a last-minute change back to the independent title insurance company and away from the lender’s agency.
Clients go to an attorney’s office because they rely on the attorney to protect them, even when they don’t know what they need to be protected from. We understand that most attorneys are not going to take time at a closing to deliver a lengthy explanation about title insurance, and we understand that such a lecture isn’t necessary. Closing attorneys know what it is and why it’s important, and should be free to make a determination as to what company to use, with their clients’ best interest in mind. Closing attorneys should not be subjected to unethical and possibly illegal pressure to choose an inferior company based solely on a commission going into the loan officer’s pocket.
We at Statewide Title unequivocally stand ready to help all of our attorneys resist the pressure of ABAs. Attorneys may have clients that prefer to change their title insurance selection after being provided with the information necessary to make an informed choice. If so, we suggest that they may use the Title Company Selection Form included with this newsletter, or download the form from our www.statewidetitle.com web site.