How to Properly Insure a Subject-To Property

Lightbulb Shattering

The obvious dilemma in insuring a subject-to property is the “Due on Sale” (DOS) clause being invoked, and the mortgage company calling the note. Though seemingly complex, some common sense rules-of-thumb usually apply. If you (or your entity) own, or have a financial “stake” in the property, you want to be the “first named insured.” The first named insured is the primary recipient of any potential claim benefit or liability protection.

An “additional insured” will garner liability protection only. A “loss payee” will have its interests protected in the event the property itself is damaged. (A mortgagee is inherently BOTH). If you decide to keep the “homeowner’s” policy in place and be named as the additional insured, be advised. If it is discovered that the ex-owner, the first-named insured in this case, no longer owns the property, expect the insurer to deny the claim based upon the fact the policyholder no longer owns the property. Even if you manage the claim to be paid, you are not the entity to receive the proceeds, as you are not the first-named insured. If you did attempt to be added as a loss payee as well, chances are the insurer will question the necessity for you being named as such. When the insurer discovers you now own the property, they will need to write a new policy.

The proper way to insure the property, once you (or your entity) own it, is to have a non-owner occupied “landlord” policy, with you as the new first named insured. The bank/mortgage company is named, as normal, as mortgagee. The prior owner should be named as the additional insured ONLY. Naming the prior owner as additional insured will usually keep the mortgage company happy.

But, you may ask, why not keep the ex-owners policy in place?

One concern of carrying two policies on the same property is that most policies have “excess” clauses. In other words, the policy will pay only excess amounts, if any other policy exists. If each of the two policies have such a clause it will create havoc in getting a loss paid.

To further clarify, here is a hypothetical example: A property has a “homeowner” and a “landlord” policy on it. A fire occurs. The owner files a claim under the landlord policy. So far, so good. However, “tenant” (prior owner, or new occupant), has personal property damage. He must also file claim, but against his “homeowners” or tenant’s policy. The respective insurance company on each claim is bound to find out about the other policy’s existence and could – more than likely would – attempt to invoke the “excess” clause of its own contract, potentially leaving the owner waiting for courts/arbitration to settle.

I wouldn’t take the chance with two policies. If an insurer has an opportunity to mitigate or deny a loss if there are contractual issues, count on them trying!

As an added note, if the prior owner moves out, the “homeowners” policy is no longer valid as the property is now “non-owner-occupied.”

Bottom line: If you own it, you insure it. If the DOS clause is or would be invoked if the insurance policy changes, I would walk away before potentially sacrificing coverage by trying to “skirt” the correct way to insure the property. In 12 years, we have yet to have a loan called (knock on wood) by insuring the new owner on a “landlord” policy and naming the bank (and the old owner) as mortgagee and additional insured, respectively.