By the terms of a real estate contract, a seller agrees to convey clear title to a buyer. As a condition of being approved for a mortgage to buy the property, the buyer's lender usually requires the buyer to purchase a lender's insurance policy, which is paid for when the real estate transaction closes. Every closing is conditioned on proof of the seller's ability to convey clear title, the release of prior encumbrances, and the ability of the buyer's lender to have a superior interest in the property to be conveyed.

In order to accomplish those conditions, a title insurance company conducts a title search before the closing to discover if there are any liens, mortgages, or judgments that have been recorded against the property, the seller, or a prior owner that have to be resolved at or prior to the closing of the transaction. Liens, mortgages, or judgments of record are called encumbrances. Prior to the closing, the buyer and/or his attorney, the lender, and the seller and/or his attorney will have an opportunity to inspect the title search to make sure that all of the encumbrances are legitimate and to take steps to obtain pay-off letters. A pay-off letter consists of a statement by the owner of the encumbrance as to the exact amount of money that it will accept on the date of closing to release the encumbrance.

Title Policy

After the transaction has closed and the closing officer has paid off the owners of the encumbrances and obtained releases, the title company will conduct another title search and will issue an owner's policy and a lender's policy that will show that the property was conveyed from the seller to the buyer, that all of the seller's encumbrances have been paid off and released, and that the buyer took title subject only to his or her own mortgage. A title insurance policy insures against problems that were not discovered in the title search.

Lender's and Owner's Coverage

The lender's policy covers a lender's priority interest in the property. The lender's policy insures that all pre-existing encumbrances have been cleared and that the lender's encumbrance has priority over any others. The owner's policy insures that the owner has good and clear title to the property. The policy covers the owner's cost of defending any challenge that may be made to the owner's title. The policy coverage includes court costs, attorneys' fees, and experts' fees, when they are required to provide an adequate defense. In most cases, the title company's attorneys will provide the defense at no cost to the owner.

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