Contractors, developers, investors and other owners of real property often create a wholly owned limited liability company, corporation, trust or other entity and transfer real property owned individually to that entity. Such transfers are made for liability protection, accounting issues, estate planning and other valid reasons. However, a transfer of real property to a wholly owned could terminate coverage under the original owner's policy of title insurance.

The normal scenario is an individual or group of individuals who purchase real property in their individual names later contribute that property to a wholly owned entity. The purchase in the name of the individual may be to complete a tax deferred exchange or merely because the individual later was advised to hold the property in the name of the entity. For example, an individual painting contractor owns a shop and yard. As his business grows, for tax and liability reasons he changes the business to a corporate entity. Title to the shop and yard are transferred to this new entity. Seems simple so far, right?

The original owner's policy of title insurance is issued identifying the individual as the named insured. Suppose that following the transfer of the property to the entity, a defect in title is discovered and the entity gives notice of a claim under the original title policy. The owner is then surprised when the title company denies what would otherwise be an insured loss. So the painting contractor now has a loss to deal with that could have been avoided.

Under the 1992 ALTA Owner's Policy form, which is the form used by most title companies in Idaho, the definition of the "Insured" reads in part "the insured named in Schedule A, and ... those who succeed to the interest of the named insured by operation of law as distinguished from purchase including, but not limited to, heirs, distributees, devisees, survivors, personal representatives, next of kin, or corporate or fiduciary successors." Under that definition, the entity which now owns the property and has suffered the loss due to the title defect is not the "insured" as defined in the title insurance policy, and the title company may have no liability to the entity. This is bad news for our painting contractor.

The 1992 ALTA Owner's Policy provides for continuation of coverage following the transfer of title by the named insured, but only for so long as (1) the insured holds an indebtedness secured by a purchase money mortgage given by the purchaser to the insured or (2) the insured has liability by reason of a warranty in the deed from the insured to the purchaser.

Without further analysis, it would seem that the problem could be resolved by the insured conveying to the wholly owned entity by warranty deed giving the entity the ability to bring an action against the individual in the event of a title defect. However, that may not be the case. In order for coverage to continue, the insured must be personally liable under the warranty. If the property is contributed to a wholly owned entity for no consideration, the warranty in the deed may not be enforceable against the insured and, consequently, there may not be any coverage under the title policy.

An assignment of the rights under the title policy by the individual to the entity is also problematic. The 1992 ALTA Owners Policy does not allow for an assignment by the insured. The issue of assignment has not been decided by an appellate court in Idaho however, other jurisdictions have found that it is not assignable to a new entity.

Now that I have pointed out all the bad news, here is some good news. Fortunately, in most cases, the problem can be easily resolved. If the individual insured is the sole owner of the entity to which the property is conveyed, most title insurance companies will issue an endorsement to the title insurance policy changing the named insured from the individual to the entity. The endorsement is issued for no charge or for a nominal premium.

However, most title insurance companies will not issue such an endorsement if there are owners of the entity other than the individual insured. Consequently, in the event an insured contractor or developer elects to form a partnership with another person or entity and contributes its property to that entity, coverage under the policy may terminate and the only solution is the purchase of a new policy in the name of the entity.

When transferring property to an entity or between entities, it is prudent to consider the issue of continued title insurance coverage.