Beware Of Ownership Interest

Conflicts of Interest

When a law firm is connected to a title company, there is a potential conflict of interest at any time that firm represents a lender in a deal the title company is insuring. In these situations, the lender should question if the law firm can give them fair advice and advocate in the strongest terms for the lender’s interests. This conflict happens because the title company and the lender are on opposite sides of the transaction. The title company aims to minimize its risk while collecting a premium on the title policies, while the lender wants a loan policy that provides maximum coverage and protection against potential losses. These goals often clash. To achieve its goal, the title company will generally seek to include as many exceptions to the lender’s policy as possible, which runs directly counter to the lender’s goal of having as few exceptions to its coverage as possible. 

Should the lender suffer a loss, its goal will be to make a successful claim under the title policy, whereas the title company’s goal will be to avoid responsibility if possible. For example, we commonly see title companies include exceptions on the title commitment that make the loan unsellable on the secondary market. One common exception is to the homestead rights of a third party—an unacceptable title impediment by Fannie Mae and Freddie Mac, and a significant risk to the lender’s lien. In such a scenario we will first attempt to negotiate with the title company to eliminate the exception or limit it to the owner’s policy. If that is unsuccessful, we will work with our client to find another title company that may be willing to insure without the exception, which of course means that the initial title company will lose out on the settlement fee and title insurance premium. We have also experienced title companies informing our clients that a loan is “okay to close” when there is an outstanding material legal defect. Why? Because that defect is not something that will be covered under the final loan policy. This occurs with some regularity on 50(a)(6) home equity loans because the home equity endorsements do not cover loss due violations of “consumer protection laws” and several other requirements of 50(a)(6). Finally, we often assist clients in making claims under the lender’s title policy when a loss arises. Title companies frequently deny the lender’s initial claim, and we must then advocate on behalf of the lender to convince the title company to pay the claim. Such advocacy can include raising the potential for a lawsuit against the title company. We do not see how a title company-affiliated law firm can provide representation that is in the best interests of the lender when the principals of such firm may suffer a financial loss should the lender be successful in its claim under the policy. For these reasons, we believe that lenders are best served by retaining independent counsel whose only financial interest in the transaction is based on its successful representation of the lender. A title-affiliated law firm is simply NOT independent for the purpose of advising the lender.

Compliance Concerns

Title-company-affiliated law firms may not comply with Texas’ legal requirements for preparing loan closing documents. In Texas, only attorneys licensed in the state are allowed to prepare loan closing documents, as stated in Section 83.001 of the Texas Government Code. This statute has been in place for a long time, and Texas courts have clarified that attorneys employed directly by a title company do not fulfill this requirement. One notable case is Hexter Title & Abstract Co. V. Grievance Committee, 142 Tex. 506, 179 S.W. 2d 946 (1944) where the Texas Supreme Court ruled that even if a corporation employs licensed lawyers to prepare

documents, those lawyers act as agents of the corporation. This means their primary loyalty lies with the corporation, not the client, and their actions are considered the actions of the corporation, which isn't allowed to practice law.

Likewise, a title company cannot establish a law firm in which the title company itself is a part owner so that such firm can prepare the loan closing packages and participate in the profits.

Such a scheme violates Rule 5.04 of the Texas Disciplinary Rules of Professional

Conduct, which prohibits lawyers from splitting fees with non-lawyers. The Rule states that “a lawyer or law firm shall not share or promise to share legal fees with a non-lawyer.” Establishing such a relationship puts the lawyer or lawyers at risk of disciplinary action.Even the establishment of a separate law firm (without the title company being an owner) may not provide sufficient independence to meet the requirements of Texas law when there is a substantial overlap of employees between the law firm and the title company. In Rattikin Title Co. v. Grievance Committee, 272 S.W.2d 948 (Tex. Civ. App. 1954), the court found that a title company that shared ownership, employees and office space with a law firm was engaged in the unauthorized practice of law, even though the law firm was ostensibly the one preparing the legal documents.

The desire to streamline costs and take advantage of economies of scale means that even today, many title companies run the risk of being found to be engaged in the unauthorized practice of law due to the intermingling of employees, computer systems, and management teams with those of its affiliated law firm. We have very rarely seen a title company-affiliated law firm that operates in total compliance with the requirements spelled out in the Rattikin case.

For these reasons, lenders should avoid engaging such a law firm owned and controlled by the same individuals that own the title company closing the loan and issuing the insurance policy first, because such a firm has an inherent conflict of interest and, secondly, because the law firm may NOT meet the legal requirements of the Rattikin and Hexter cases to satisfy Section 83.001 of the Texas Government Code. Our firm and its attorneys do not operate an affiliated title insurance company precisely because we believe that we could not provide our lender clients with the best representation while simultaneously having an interest in a counterparty to the transaction.