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How to Insure ‘Subject To’ Properties Without a Trust
by Kelly Troy on July 16th, 2009
Prior to the 1980’s, mortgages were written differently than they are today and investors and homeowner’s purchasing new property commonly used the ‘Subject To’ method of assuming the seller’s underlying loan as a main-stream and accepted purchasing method. However, after the Savings and Loan debacle, and the subsequent removal of popular NENQ (Non-Escalating Non-Qualifying) loans, the method of using ‘Subject-To’ financing was swiftly brought to an end. That said, however, with the new ‘credit crunch’, the record-high number of foreclosures, a declining housing market, and the recent changes in loan programs; investors are locating bargains and many bueyrs cannot qualify for a traditional mortgage loan in order to purchase a home. Because of this, although technically not allowed, the ‘Subject-To’ method is again alive and doing very well.
The biggest problem with this method of obtaining property is that with the exception of a few FHA and VA loans originated before 1989, there are almost no remaining ‘assumable’ loans left in the market and the mortgage loans used today strictly prohibit another party from assuming this debt. Commonly referred to as ‘wrap-around’ mortgages, many investors still create these assumption-purchase scenarios in order to easily obtain a new bargain property and many buyers utilize it when they cannot qualify for traditional lending, however, the fact is that they are trying to ‘skirt the system’ and they are taking a calculated risk that the underlying mortgagee either won’t find out that the loan has been assumed or else they simply won’t care so long as the mortgage is being paid. In either case, it’s a gray area at best and property insurance is really not designed to be used in these types of scenarios; which only adds another complication. Simply put, there is no ‘perfect’ or ‘clean’ way of insuring these properties and many agents risk losing their license, paying fines, and losing appointments with insurance carriers because they commonly insure these properties incorrectly and actually create ‘material misrepresentations’ in the insurance policy.
Insuring ‘Subject-To’ property is often tedious because investors and buyers do not want to trigger the ‘Due On Sale‘ clause, found in current mortgages, by sending the mortgagee a new insurance declaration’s page with a named-insured different than that of the original owner (remember, this is ‘skirting’ the mortgage contract). The reality regarding this concern; however, is very, very minor. The most common question is “Won’t the underlying lender call the loan due if they find out that I now own the property“? Technically speaking, they could. Practically speaking, they won’t. Banks are in the business of making loans, not collecting houses, and as long as payments are being made they usually don’t care whose making them. As we already said, banks don’t want houses, they want payments, and as long as they have a performing asset they are not going to call the loan due in order to give up their on-time payments in return for a non-performing asset which now costs them money. This is especially true in the current market.
Unfortunately, many real estate professionals and ‘gurus’ (which know absolutely nothing about insurance laws and some of which we actually know) teach that the homeowner’s policy should be kept in place with the ‘seller/owner’ and that the investor/buyer should actually purchase a second policy for their ’new’ insurable interest. This supposedly keeps the mortgagee in-the-dark about the transaction and makes everything clean for the new investor-owner. This is wrong! Sure, it can be done, but the reality is that in the event of a claim it may (in some cases) be construed as insurance fraud (since all parties have knowingly double-insured the property and made material representations to t he insurance companies in order to avoid disclosure to the lender).
First of all, it is a direct violation of the underwriting and eligibility guidelines for every insurance company to have duplicate coverage on the same property. Just like two people cannot have two different insurance policies for the same car, you can’t have two insurance policies for the same property – especially when one of them no longer has an ‘insurable interest’.
Secondly, you cannot maintain a “homeowner’s” policy with the seller listed as the named-insured on a non-owner occupied residence no longer titled in the original owner’s name, this can be considered insurance fraud if there is ever a claim and although the seller’s name is on the original mortgage loan, you (the investor) are technically the new owner on title and unless you are living in the home as your own personal residence, this is going to require a new dwelling (not homeowner) policy.
Third, another reason you don’t want to have the seller continue to maintain his or her current insurance as the ‘named insured’ is due to the fact that he or she is no longer the actual owner. Again, this is fraudulent. It’s true that the seller is still responsible for the underlying loan because he or she signed the original Promissory Note, but the property is no longer titled in the seller’s name – hence the seller cannot legally purchase or pay for the insurance. Also, if the seller did keep the insurance in place and listed you (the investor/owner) as an ‘additional interest’, only the liability protection of the policy is extended to you and the seller still has ownership and complete control of the policy and the seller is then the only one who can make changes or file claims and he or she is legally entitled to any and all claim settlements and refunds from the insurance company.
In summary, although it’s probably not what many investors want to hear, you (as the new owner) must obtain a new dwelling policy with your name listed as the ‘Primary Insured’. There is usually no other way. While many agents and gurus may give you different information, tell you what you want to hear, or may issue policies however you want it done, the truth is that they are incorrect and, if there ever is a claim (the whole point of having insurance), it will probably be denied flat and the policy cancelled because it was miswritten and, in some cases, illegal. We’re investors ourselves and we understand what can happen.
If you have the home in the name of an LLC or other entity, this entity should be listed as an ‘Additional Interest‘ (NOT the ‘Additional Insured‘ in most cases – there is a blurry legal difference in these terms that actually matters). All property and liability coverages should carry over to the entity listed as the ‘Additional Interest’ while, in many cases, only liability protection extends to ‘Additional Insureds’. Also most carriers will not allow a policy for personal residential property to be issued with a commercial or corporate entity as the Primary Insured. Why? Because in addition to the carrier’s potential legal issues later on in the event of a claim, that defeats the purpose of it being issued as residential personal property, it would then be considered a ‘commercial venture’ and that’s what commercial policies are designed for.
We InsuranceForInvestors specialize in investment and ’Subject-To’ properties and we can help with all of your investment property and key-person insurance needs.
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I love this blog. Thanks for the great information. I have it bookmarked and will be back.
Wow, this was a helpful article. I didn’t know any of this. I called other insurance companies and none of them knew what I was talking about. I’ve had other ‘experts’ tell me to do exactly what I just learned NOT to do – get two insurance policies on the property.