By Robert Bruss
Tribune Media Services Writer

One Sunday evening, my seatmate on a flight from Chicago to San Francisco, on learning I write about real estate, asked "Why do I have to buy a new title insurance policy when I refinance my home mortgage?"

Although I'm sure he wasn't satisfied with my answer, I explained all the title problems, such as judgment liens, mechanics' liens, income tax liens and unpaid property tax liens, that might have arisen since he bought his home and obtained title insurance a few years ago.

Most homeowners share my seatmate's feeling that title insurance is a ripoff and a waste of money. But without it, mortgage lenders wouldn't lend, since the risk of title loss would be too high.

Title insurance policies

Most title insurance policies are issued when a home is purchased or its mortgage is refinanced. Actually, there are two types of title policies with similar, but different, coverage:

• A lender's title insurance policy, which insures the mortgage lender against loss due to title risks up to the mortgage balance. The lender's title policy risk declines as the mortgage is gradually paid down.
• An owner's title insurance policy, which insures the homeowner's equity. This amount is often very small at the time of purchase, especially when a low down payment was made. As the mortgage balance is gradually paid off and the homeowner's equity grows, the owner's title policy protection increases.

To illustrate, suppose a $100,000 home is bought with a $3,000 down payment and a $97,000 Fannie Mae mortgage. The lender's title policy insures the $97,000 mortgage. The owner's title policy has a $100,000 limit, but actually only insures the owner's small $3,000 equity. Eventually, after the mortgage is paid off, the homeowner's policy would pay the full $100,000 policy limit if a title defect caused loss of the property.

What's insured?

The biggest cause of insured title loss today is forged signatures in the chain of title, usually on the deed. Even the world's greatest title searcher cannot prevent such losses, although title insurers do everything possible to cut their risks.

Other title risks include recording mistakes, deed indexing errors, unpaid mechanics' liens, judgment liens, income tax liens, and property taxes, undisclosed easements, claims by missing heirs, and claims by ex-spouses. Property boundaries, however, are not insured unless a survey is insured.

What about payouts?

For many years I've asked the question, "Have you ever met, or even heard of, anyone who was ever paid on a title insurance claim?" I've received less than a dozen responses from claimants who collected from a title insurer.

The reason title insurers pay so few claims is that they spend most of their title insurance premiums researching titles and refusing to insure questionable titles. According to American Land Title Association spokesman Gary Garrity, only about 9 percent of title insurance premiums collected are paid out for title claims.

Is it really needed?

Many homeowners reason that since mortgage lenders insist on a lender's title policy, the homeowner can save by not obtaining an owner's title policy. That's foolish because at the time of home purchase, an owner's title policy only adds a few dollars to the cost of title insurance.

An owner's title policy is especially important when buying from friends and relatives you trust. They might "forget" to tell you about their judgment lien, unpaid property taxes or income tax liens. After you purchase the property without an owner's title policy, you'll eventually discover these liens attach to the property and can be foreclosed against a subsequent owner.

Ask for a discount

In many states, discounts are available on title insurance for special situations. For example, if a title insurance policy was issued within the last few years, a discount may be available. Be sure to ask.

If you are buying property you expect to sell within a few years, ask if a "binder policy" is available. For an extra 10 percent binder policy premium, when you sell the property and use the same title insurer, you'll get all your premium refunded except the extra 10 percent paid for the binder policy.

Although title insurance may seem like a waste of money, since title insurers rarely pay claims, it is "peace of mind insurance" against a potentially huge title loss, which rarely happens. Should an insured title loss occur, if you have an owner's title policy, the deep pocket insurer will pay the loss to prevent forfeiture of the property.