Arizona Supreme Court Rules Against Insurer on Date of Loss Issue
December 20, 2016
Citation: First American Title Ins. Co. v. Johnson Bank, --- P.3d ---, 2016 WL 3247545 (Ariz. 2016)
Facts: First American Title Insurance Co. issued Loan Policies for deeds of trust on two different properties. The policies did not except certain covenants, conditions and restrictions (CCRs) recorded against the property that prevented its commercial development. The borrowers defaulted on their loan obligations and, in 2010, Johnson Bank foreclosed and took title to the properties. After the foreclosure, Johnson Bank made claims under the lender’s policies claiming that the CCRs prevented the properties from being developed for commercial purposes and the CCRs were not exceptions to coverage under the policies.
The parties disagreed over the date for calculating the diminution in value as a result of the CCRs. Johnson Bank argued that the date the loans were issued should be used. First American argued that, instead, damages should be calculated as of the date of the foreclosure, which was after the real estate market had declined precipitously.
The parties filed cross-motions for summary judgment and the trial court granted summary judgment in favor of First America, ruling the properties should be valued as of the date of the foreclosure. The court of appeals reversed, holding that, absent an express date in the policies, the date to measure any diminution in property value is the date of the loan, and remanded the case for entry in favor of Johnson Bank. The Arizona Supreme Court granted review because the case presented an issue of first impression and of statewide importance.
Holding: After analyzing the policies in light of the legislative goals, social policy and the parties’ transaction, the Arizona Supreme Court found section 7(a)(iii) of the policies was ambiguous as to the date as of which diminution in value is to be calculated, and should therefore be construed against the insurer, First American. The Arizona Supreme Court rejected First American’s argument that the date of foreclosure is the only reasonable date of valuation because the lender must foreclose in order to incur and claim a loss. Reviewing cases from around the country, the Arizona Supreme Court identified a line of cases that used the date of foreclosure as the date of valuation, but, those cases, it noted, involved undisclosed superior liens as the underlying title defect. The court held that, in those cases, it may well be appropriate to value the loss as of the foreclosure because the damage results from the insured lender not having priority, but refused to generalize that scenario to all circumstances. Instead, it adopted a case-by-case approach to identifying the date for valuing the loss.
The Arizona Supreme Court held that the policies implicitly permit the use of the date of the policy as the date for calculating damages under section 7(a)(iii), “if the title defect caused the borrowers/owners to default on Johnson Bank’s loans.” It vacated the appellate court opinion and remanded the matter to the trial court, however, agreeing with First American that there was no evidentiary support in the record that the title defect had caused the borrowers’ default.
Justice C.J. Bales dissented, arguing that the majority, by reasoning that First American had caused the lender consequential damages by conducting a deficient search and failing to disclose the CCRs, was effectively imposing an abstractor’s duty to disclose on a title insurer. Such a duty is not, according to Justice Bales, authorized by the policies, which contemplate an actual loss that cannot be incurred by a lender until foreclosure.
Importance to the Industry: The Arizona Supreme Court’s opinion appears to revise the reasonable assumptions of the parties evident in and underlying title insurance policies in order to construe those policies against title insurers and hold them liable for market declines. Because title insurers insure title and not the value of real property or a borrower’s ability to perform, both practically and historically the responsibility of a lender’s sound loan underwriting, they should not be held liable for consequential damages, the risk of which they are unable to evaluate or factor into the policy premium at the time of the issuance of a policy. Moreover, the opinion creates another unnecessary problem, as it remains unclear how a title defect can cause a borrower to default or what evidence would be required in order to show this. None of this is addressed in the opinion or the Loan Policy and trial courts will in effect have to make it up after the fact. Thus, this opinion, as the dissent points out, threatens to impose an extra-contractual liability on title insurers for a loss that the lender is in the best position to evaluate at the time of the loan. While the 2006 ALTA Loan Policy addresses this issue, giving the insured lender the option of having the loss valued as of either (i) the date the claim is made or (ii) the date the claim is settled and paid, the Arizona Supreme Court’s opinion will nevertheless still have a significant impact.
Christopher W. Smart is a real property trial attorney with Carlton Fields P.A. He may be reached at csmart@carltonfields.com.
Contact ALTA at 202-296-3671 or communications@alta.org.