Insurance for “Subject To” properties is a commonly misunderstood challenge. A “Subject To” deal is when you agree to purchase a property subject to the existing mortgage along with all other liens attached. The existing homeowner deeds the property to you and you take over making the payments to the lending institution. You do not assume the loan through the bank. It’s a popular creative investment strategy for real estate investors.
The obvious dilemma is the “Due-on-Sale” (DOS) clause being invoked and the mortgage company calling the note.
When it comes to insurance for “subject to” deals, some rules of thumb usually apply:
- If you (or your entity) own, or have a financial “stake” in the property, be the “first named insured”. The first named insured is the primary recipient of any potential claim benefit or liability protection only.
- A “loss payee” will have its interests protected in the event the property itself is damaged (a mortgagee is inherently BOTH).
- If you decide to keep the “homeowner’s” policy in place and be named as the additional insured, be advised. If it is discovered that the ex-owner, the first-named insured in this case, no longer owns the property, expect the insurer to deny based on the fact the policyholder no longer owns the property. Even if you manage the claim to be paid, you are not the entity to receive the proceeds, as you are not the first-named insured. If you did not attempt to be added as a loss payee as well, chances are the insurer will question the necessity for you being named as such. When the insurer discovers you now own the property, they will need to write a new policy.
The Wrong Way to Insure Your “Subject To” Property
When getting insurance for your “Subject To” property, know that being named as an “additional insured” on an existing homeowner’s policy is not sufficient coverage. Here’s why. In the event you do go through a claim at one of your locations, the claim’s settlement check(s) paid to repair the property are made out to the first “named insured” AND all “additional insured.” Therefore if you are only listed as an “additional insured” on the homeowners’ policy, say a fire damages the property, the previous homeowner has the same rights to the claims check as you.
We have witnessed instances with a previous company where the insurance carrier made a mistake and only listed the first “named insured” on the claim settlement check, failing to list the lender. In this instance, the owner of the property made $1.2 million on the claim settlement, left the country, and the lender was left with a burned-out apartment building.
The Correct Way to Insure Your “Subject To” Property
The proper way to insure the property, once you (or your entity) own it, is to have a non-owner occupied “landlord” policy, with you as the new first-named insured. If you have ownership and financial interest in the property, you better be first “named insured” on the insurance policy. The lender is going to receive notice from the carrier when the homeowner’s policy is canceled. If they are doing their job, they are hounding the homeowner for proof of replacement coverage. This is where the policy you purchased will suffice. When reviewing the evidence of insurance you provide, the lender will make sure:
- The business entity is listed as first “named insured”
- Their mortgagee clause is listed correctly to protect their interest in the property
- The building value provided by your carrier meets or exceeds the amount of the loan to satisfy the lender’s interest in the location
- Most importantly, the homeowner must be listed somewhere on the certificates
NREIG lists the owner on the documents, but on the liability certificate only. Owners are included on the liability only because on a liability loss the settlement check(s) are made out to the injured party, not the “named insured” or any “additional insured” parties. In the event of a liability loss occurring at the property with the homeowner named in the lawsuit, your liability policy coverage will extend to them.
Why Not Keep the Ex-Owner’s Policy in Place?
One concern of carrying two insurance policies on the same property in a “Subject To” deal is that most policies have “excess” clauses. In other words, the policy will pay only excess amounts, if any other policy exists. If one of the two policies has such a clause it will create havoc in getting a loss paid.
For example, the property has a “homeowner” and a “landlord” policy (both) on it. A Fire occurs and the owner files a claim under the landlord’s policy. So far, so good. However, the tenant (prior owner, or new occupant), has personal property damage. He must also file a claim, but against his “homeowners” or tenant’s policy.
The respective insurance company on each claim is bound to find out about the other policy’s existence and could (more than likely would) attempt to invoke the “excess” clause of its own contract, potentially leaving the owner waiting for courts/arbitration to settle. If an insurer has an opportunity to mitigate, or deny, a loss if there are contractual issues, be sure they’ll try!
As an added note, if the prior owner moves out, the “homeowners” policy is no longer valid as the property is now “non-owner-occupied.”
Bottom line: if you own it, you insure it.