Installment #14 Insurance Issues for The Real Estate Investor - Creative Acquisition Strategies
"Creative" acquisition strategies, and how to properly protect you and your entity (ies):
Let’s focus now on the very misunderstood issue of how to properly insure a “Subject To” deal.This one is going to be a bit longer but it will be worth it!
The obvious dilemma or concern many investors are worried about is the "Due on Sale" (DOS) clause being invoked and the mortgage company calling the note. Though seemingly complex, some common sense rules-of-thumb usually apply. If you (or your entity) own, or have a financial "stake" in the property, you need to be the "first named insured".
The first named insured is the primary recipient of any potential claim benefit or liability protection. An “additional insured” will garner liability protection only. A “loss payee” will have its interests protected in the event the property itself is damaged. (A mortgagee is inherently BOTH).
Some investors decide the way they will go about it is to keep the existing Homeowners insurance in place and be added as additional insured to that policy.This is a dangerous game you should avoid and here is a reason why.If it is discovered that the ex- owner, the first-named insured in this case, no long
er owns the property, expect the insurer to deny any claim based upon 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 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.You could have avoided all of this by doing it the right way from the start, but nobody teaches investors this!
The proper way to insure the property, once you (or your entity) owns it, is to have a non-owner occupied “landlord” policy, with you as the new first named insured. The bank/mortgage company is named, as normal, as mortgagee. The prior owner should be named as the additional insured ONLY. Naming the prior owner?as additional insured will usually keep the mortgage company happy. But, you may ask, why not keep the ex- owners policy in place? One concern of carrying 2 policies on the same property is that most policies have “excess” clauses. In other words, the policy will pay only excess amounts, if any other policy exists. If each of the 2 policies has such a clause it will create havoc in getting a loss paid...
To further clarify the scenario here is a hypothetical example: Property has a “homeowner” and a “landlord” policy (both) on it. Fire occurs. Owner files a claim under the landlord policy. So far, so good.. However, “tenant” (prior owner, or new occupant), has personal property damage. He must also file claim, but against?his “homeowners” or tenants policy. The respective insurance company on each claim is bound to find out of 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...
I wouldn't take the chance with 2 policies. 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. If the fact that a DOS clause is/would be invoked if the insur
ance policy changes, I would walk away before potentially diminishing or even sacrificing coverage by trying to “skirt” the correct way to insure the property. In 12 years, we have yet to have a loan called (knock wood) by insuring the new owner on a “landlord” policy and naming the bank (and the old owner) as mortgagee and additional insured respectively.