Title Insurance Compensates for Loss Based on the Highest and Best Use, Not the Use at the Time of Discovery of the Defect.

A title insurance policy does not insure against future events. Instead, title insurance indemnifies the insured against loss resulting from differences between the actual title and the record title as of the date title is insured. Liability is often clear due to missed documents in the chain of title. Once liability is established the problem is to decide how to calculate what the damage is. In a recent decision the title insurer argued that the diminution in value of the property due to an undisclosed easement was based on the value of the actual use of the property. They were wrong- the court held it liable for diminution based on the highest and best use of the property.

In Tait v. Commonwealth Land Title Insurance Company, (103 Cal.App.5th 271), the Taits had purchased a residential property in Danville for $1.25 million. They had planned to subdivide but later discovered a maintenance easement that covered the area of a drainage easement that the title policy did not include as an exception. They could not subdivide.
Commonwealth issued the Taits an American Land Title Association (ALTA) Homeowner’s Policy of Title Insurance for the property. The policy insured the Taits against “actual loss” arising from certain defined covered risks, which include someone else having an easement on the property.

The policy limits Commonwealth’s liability for an unknown easement to the lesser of the Taits “actual loss” or the policy limit of $1.25 million. The policy does not define “actual loss.” A policy exception to coverage was for certain building and subdivision restrictions recorded by the Town of Danville (town) and a recorded irrevocable offer of dedication of a drainage easement. The building restrictions prohibit further subdivision of the property and the construction of any building within the area of the offered drainage easement.

The title company hired an appraiser, who assumed that the drainage easement would be removed, but that the maintenance easement would prevent further development of the property. The test was the highest and best use of the property on the date of loss. It found that the value without the maintenance easement was $1.3 million; with the easement $1.1 million, hence a diminution of value of $200,000.

The Buyers got their own appraiser. The appraiser felt that, without the easement, the property would be subdivided and developed, worth $2.08 million. With the easement, it would not be subdivided, and as a single lot was worth $1.38 million, diminution in value was $700,000. The title company refused to pay the difference.

The appellate court first noted that the parties agreed that the Overholtzer v Northern Counties (116 Cal.App.2d 113) case established that an owner’s actual loss when there is a cloud on title is measured by the diminution in market value caused by the existence of the cloud. However, they disagree over what Overholtzer said about how to calculate the depreciation in market value. The Court noted that a property’s value for any particular use changes over time.

In Overholtzer, the court stated that the measure of damages was “the depreciation in market value caused by the existence of the easement. It then considered whether this diminution in value should be calculated “at the time of purchase, market value being measured by the use to which the property is then devoted,” or whether it should be calculated “as of the time of the discovery of the defect measured by the use to which the property is then being used. The court concluded, “It seems quite apparent to us that liability should be measured by diminution in the value of the property caused by the defect in title as of the date of the discovery of the defect, measured by the use to which the property is then being devoted. When a purchaser buys property and buys title insurance, he is buying protection against defects in title to the property. He is trying to protect himself then and for the future against loss if the title is defective. The policy necessarily looks to the future. It speaks of the future. The present policy is against loss the insured ‘shall sustain’ by reason of a defect in title. The insured, when he purchases the policy, does not then know that the title is defective. But later, after he has improved the property, he discovers the defect. Obviously, up to the face amount of the policy, he should be reimbursed for the loss he suffered in reliance on the policy, and that includes the diminution in value of the property as it then exists, in this case with improvements. Any other rule would not give the insured the protection for which he bargained and for which he paid.”

But, in that case, the parties did not consider whether there was a higher use. Thus, answering the timing question also answered the use question. At the time of valuation, the property was being operated at apparently its highest and best use – as a lumber mill. Thus courts concluded that Overholtzer was NOT a rejection of the ‘highest and best use’ measure because the industrial use to which it was being devoted on the date the title defect was discovered was a higher and more valuable use than its agricultural use on the date that the title insurer had proposed.

The trial court granted Commonwealth’s motion for summary judgment, ruling that the policy required Commonwealth to compensate the Taits only for the value of their actual use of the property as a vacant residential lot suitable for only one home rather than its highest and best use as a subdividable lot. But the court of appeals, analogizing to eminent domain decisions, agreed with the Taits that the policy entitles them to reimbursement for the diminution in value of their property based on its highest and best use which the property might be put in the reasonable near future.

By the title company’s reasoning, if the buyer paid a premium for a developable property and the development is impossible due to a title defect,, the buyer would not be compensated for what was lost. The title policy requires compensation for “actual loss,” so it should compensate for such harm, even the property could be continued in its existing use.

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