As the foreclosure "crisis" has developed and lenders have ended up with large and growing portfolios of single family real estate owned (REO), the lenders have developed new systems for attempting to liquidate that REO without incurring additional liability.
One common approach that many professionals will recognize is that a financial institution will have a particular addendum that it requires to be included in any sale of REO. These addenda have grown in length over the past 5 years, and they also have grown in the amount of liability which they shift onto the home purchaser.
For example, a buyer of REO might anticipate and be comfortable with the prospect of purchasing the property "as-is." The buyer assumes the risk of inspecting and analyzing the condition of the property, and the lenders routinely ask the buyer to acknowledge and accept the risk of unknown defects.
This "as-is" concept now has been extended into the title. Lenders are including in their addenda a provision indicating that the lender will not give the buyer a warranty deed. Rather, the lender will provide what is effectively a quit claim deed. The distinction is significant. A quit claim deed merely transfers whatever interest the transferee has in the property, but it does not warrant that the transferee has any interest to transfer.
In the case of REO, and depending upon the lender, the timing, and the state, there is a significant risk that the lender may not have completed the foreclosure process properly and that there may be other interests in the property. Lenders are refusing to accept the liability in those cases. Rather, they want the buyer to assume the risk that the lender may have screwed up.
Doesn't title insurance cover that risk? It depends. Look carefully at the title insurance commitment, its requirements and its exclusions. In many cases, the title insurer requires a warranty deed (which the buyer won't get). The insurer also has standard exceptions which are only removed if the seller provides a particular set of affidavits. Lenders typically won't provide these, so the exceptions to coverage remain.
When I'm asked by a buyer whether they should sign one of these REO addenda, my advice, of course, depends upon the entirety of the facts. However, in general, if one is asked to assume risks, one should be compensated. In the case of a buyer buying a property from a seller who may not own it and who may not be able to transfer it free and clear, I'd recommend that the buyer receive a significant price discount.
James N. Graham of Accession Law LLC provides real estate and business legal services in Wisconsin.