The Dangers of Title Clouding And How Smart Investors Can Avoid It

by | BiggerPockets.com

This article does not constitute legal advice. We recommend you seek the counsel of an attorney familiar with your specific situation and market to ensure you make the best decisions within your real estate business.

As an asset protection attorney, it’s my job to anticipate problems and potential lawsuits. Regular readers may be familiar with my work on how using a series LLC can protect you and your assets. Today, I’m going to tell you another way you can protect your assets that you may not already be aware of. If you’re a real estate investor who has never heard of the terms lis pendens or title clouding, you definitely want to pay attention. Don’t worry, this isn’t a law review article—I’m here to explain these concepts in plain English. Get ready to learn about title clouding!

What are Title Clouding and Lis Pendens?

Lis pendens (Latin for “suit pending”) may sound like the answer to a Double Jeopardy question, but the reality is it’s a situation that can only cost you money. The concept can really screw you over if you’re not thoroughly prepared for it. A lis pendens may be filed against your property if it’s involved in any type of lawsuit.  If someone does file a lis pendens against your property, you won’t be able to rid yourself of the issue by simply selling it. A lis pendens prohibits you from selling at all for as long as it’s in place. Only when your legal problems are resolved can you resume business as usual. In the field of asset protection, we call this issue “title clouding.”

Why Should I Care About Title Clouding?

Title clouding is just another tactic that your opposing legal counsel will use to pressure you into giving in to their demands. Demands in this case usually mean “your hard earned cash or other assets.” Because lawyers make money by winning judgments, their demands or often costly and unreasonable. After all, there’s no incentive for them to be reasonable in these situations.

Think about how much money you can lose if you’re not able to sell a home you bought just to renovate and flip on a short timeframe. What if you are prepared to liquidate the asset, and are badly in need of the cash? Title clouding can and will screw you over.

Related: 5 Things You Probably Didn’t Know Your Title Company Could Do For You

Unlike house flipping, lawsuits aren’t known for being quick-cash endeavors. Some drag on for years and years. And if this happens to you, you have to hold on to your asset for the entire duration of the legal battle.

If you don’t have a solid asset protection plan in place, one of your properties can get hit with a lis pendens at literally any time. At that point, you will be forced to deal with the title clouding and restrictions that come with it. There are technically ways to legally sell your property while it is subject to title clouding, but the presence of title clouding alone is going to make sale infinitely more difficult. Think about it: who is going to want to buy it when it’s the subject of a lawsuit? Consider that question from the perspective of a prospective buyer who, like you, is a real estate investor. Would you buy a property under those conditions?

As silly as it may seem, property can be considered “psychically damaged.” More colorful examples of this include when somebody dies on a property or previous tenants claim it is haunted. Even if such claims are totally bogus, just as the lawsuit may be, the assertion alone is enough to give some potential buyers cold feet.

On the upside, if your property does get hit with a lis pendens and you end up winning the lawsuit, you can sue whoever filed it for the monetary losses you took as a result of title clouding.



Related: Types of Deed & Ways to Take Title: Everything Investors Should Know

How to Prevent Title Clouding From Happening to You

The best way to avoid a lis pendens and the unfortunate consequences that come with it is to make yourself an unattractive target for lawsuits. This is easily accomplished using the asset protection strategies I have discussed on BiggerPockets before. In particular, the use of a series LLC structure in conjunction with ownership via Anonymous Trusts or Land Trusts can prevent the lawsuit from even being filed in the first place. No lawsuit, no lis pendens, no title clouding. In other words, no problem. You’re free to go about business as usual.



That’s all for now. Were you aware of the threat of title clouding before? Have you ever had to contend with this thorny issue?

Please share your experience with this topic and any remaining questions you may have in the comments section. I’ll make myself available to answer as many of your questions as possible. Thanks for reading, and good luck out there!

About Author

Scott Smith

Scott Smith helps clients nationally and internationally from his office in Austin, Texas. With over 5 years experience in the litigation, Scott works on proactively building defense in anticipation of future lawsuits for real estate investors. Scott is one of the few attorneys in the nation that structures companies for maximum protection with minimum taxes.

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8 Comments

  1. John Underwood

    Scott,

    I am looking to do some Estate/Asset planning this year.
    See if you recommend this or have a better suggestion:
    Top level Revocable trust (To avoid probate and provide anonymity) That owns an LLC.
    This LLC owns many LLC’s that each own a single property.

    I believe that all the LLC’s still have to have its own EIN number but these would all be pass through to my personal taxes. Each individual LLC will need its own bank account, but I believe I can sweep these to the top level LLC bank account and use it to pay bills for all the properties.

    This would give me inside and outside protection and have a couple layers between a property and myself in addition to insurance.

    Is this a good approach?
    Thanks for your input!
    John

  2. Scott Smith

    In your case, I might look into the Series LLC, rather than so many Traditional LLCs. This option is often cheaper and just as easy to run. The same protections are offered by child LLCs you can create in minutes.
    As explained, yes, these could be pass-through entities.
    You’re on the right track. It’s great that you’re considering asset protection and which strategies will work for you.. At this point, a legal professional could be of great help to you. Asset protections strategies are not DIY projects. That said, you’re considering your options, and that’s great.

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