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client meetingHave you ever wondered why you had to pay a charge for an “honest” transaction? Kind of gets you wondering, “What’s next?” That question comes up in real estate closings, where a charge regularly appears for a “closing protection letter.” Just what is a closing protection letter, and why would you need to have it separately stated, much less be charged for it?

Perhaps born out of one too many situations where fast and unscrupulous title company owners took off with the proceeds of a real estate transaction, and the outcry, whether deserved or not, the title insurance company underwriters cloaked their local issuing agents with the appearance that such agents were acting on behalf of the title insurance underwriter. Members of the title insurance industry came up with a solution: they would try to do a better job in selecting issuing agents, but it would be easier to just have everyone pay a small fee and be insured against any fraudulent shenanigans with the money and closing documents.

Title agents are authorized to sell policies for one or more title insurance underwriters. Title agents are agents of the title company solely for the purpose of issuing title insurance commitments and policies. They are not the title company’s agent for the purpose of conducting settlements or performing escrow services. A lender who wants the title insurer to be responsible for the agent’s acts in connection with escrow closing activities and services must separately contract with the title insurer for such additional protection by entering into a closing protection letter (“CPL“). This letter is for lender purposes only and is not issued to individuals for owner’s title insurance.

CPLs were originally forms requested by mortgage lenders who were concerned they had no protection against unauthorized or fraudulent actions or failure to comply with the lender’s closing instructions. Lenders require CPLs because the agency-principal relationship between a title underwriter and a policy-issuing agent or approved attorney is limited to the insurance of a title-insurance policy, and such relationship does not extend to escrow or closing functions.

The CPL specifically provides that the title insurance company will reimburse the customer named in the letter (when the customer is purchasing a title insurance policy) for losses incurred under certain conditions and as the result of certain actions or inactions by the approved agent. It does not protect the title agent from recourse, but gives the lender another avenue to recover from any claims arising from the title agent’s actions or inactions. The CPL further provides that the customer’s recourse against the title insurer is limited to and defined by the provisions of the letter with respect to such losses. The fee for the letter is a pass-through cost to the borrower like the lender’s title insurance policy and is calculated and paid to the title insurance company.

CPLs are intended to indemnify lenders solely against losses incurred as the result of (1) dishonesty or fraud by the issuing agent in handling the lender’s funds or documents in connection with the specific transaction for which the letter is issued, and (2) failure of the issuing agent to comply with the written closing instructions of the lender to the extent they relate to status of title to the lender’s interest in the land or the validity, priority or enforceability of the mortgage to encumber the subject property, including the obtaining of documents and disbursement of funds in connection therewith. Most CPLs explicitly make a third-party beneficiary out of the borrower in a purchase transaction.

Not only do CPLs provide protection for all parties to the closing from errors in the disbursement of funds by the closing agent, but also they provide protection for parties to the closing from the mishandling of documents, including those that are to be recorded. Furthermore, CPLs protect the buyer and lender from prior liens due to incorrect payoff information furnished by the lien holder.

The CPL serves to extend the liability of the title insurance company to cover “bad acts” of the title insurer’s issuing agent. This additional protection must be separately and specifically requested from the title insurer. The scope of the coverage is defined solely by the terms and provisions of the letter. Coverage under a CPL is also strictly limited to the parties designated therein, and generally applies only with respect to the particular transaction for which the letter is furnished.