Lawyers Are Reckless: Reasonable Recommendations Result in Uncovered Loss

Author: Chris Boggs

I can only assume you are reading this because of the title. Well, lawyers are reckless. Except for the attorneys who work for Big I and a few attorney friends of mine – there ain't much intelligence among the group.

Don't get me wrong, as though my statement could give you the wrong impression, I didn't say they don't know the law or that they aren't necessary – they just don't know insurance! But not knowing insurance isn't necessarily the problem, making recommendations without understanding the insurance ramifications is the problem.

Following is a true story from our Ask An Expert service proving this point:

One of our elderly homeowner insureds transferred ownership of his home to an LLC in September 2017. Four months later, on January 11, 2018, before any changes are made to the policy, the home burns down - a total loss. The insurance carrier is investigating under a reservation of rights because it claims the named insured (the individual) no longer has insurable interest in the property. The carrier agreed to cover the contents but may not cover the dwelling.

Undoubtedly, this recommendation was made by an attorney, probably for estate tax purposes (this was not clarified in the question). I don't necessarily take issue with the recommendation; the problem stems from the fact that the attorney apparently did not tell the homeowner that transferring ownership jeopardized his homeowners' coverage. Most likely the attorney did not pass this information along because the attorney did not know the insurance ramifications.

In this particular case, the insurance carrier was right to deny the claim for two reasons:

The named insured, the individual, no longer owned the home and thus no longer had insurable interest. The owner became the LLC; and
There is currently no way to cover an LLC, corporation or other such legal entity in a homeowners' policy. Trusts are the only non-natural person currently insurable by a homeowners' policy.

Types of Persons

Two types of persons exist under the law, natural persons and legal persons. Several prior VU articles detail these differences. Natural persons are flesh and blood individuals; legal persons are created by the filing of legal documents such as articles of incorporation or articles of organization. Natural and legal persons have the same rights under the law, including the right to sue, be sued and own property.

One key point many forget – a natural person is not also a legal person; and a legal person is not also a natural person. Confused? This simply means that just because a person owns 100 percent of a corporation's stock, that does not equate him or her with the corporation – they are still separate persons under the law.

In the subject situation, even though the individual was likely a member of the LLC (maybe even the only member), that does not equate him with the LLC. The LLC, being a separate entity, owned the dwelling and the individual no longer held ownership or had legal interest.

Homeowners' Policy Eligibility

A second reason the carrier appears to be correct in its denial, based on the facts provided, is eligibility. A homeowners' policy can be written on:

The owner-occupant(s) of a 1 – 4 family dwelling used exclusively for private residential purposes.
The purchaser/occupant who has entered into a long-term installment contract for the purchase of the dwelling (although the title remains with the seller and does not pass to the purchaser/ occupant until all the terms of the installment contract have been satisfied.) The seller cannot act as a mortgagee.
The occupant of a dwelling under a life estate arrangement.
A dwelling in the course of construction when the policy is issued only in the name of the intended owner-occupant.
To one occupying co-owner of a 2-4 family dwelling when two or more apartment units in such dwelling are occupied by co-owners, each occupying distinct living quarters with separate entrances.
To the occupant of a house in a Trust arrangement meeting specific requirements. Endorsements are used for this arrangement.

(Specific guidelines may apply to each of these eligibilities, this serves as a general listing of eligibility requirements.)

Note that NONE of these guidelines allow for coverage of an LLC, corporation or other non-natural entity (other than a trust). In the example case, the dwelling is not eligible for a homeowners' policy as of its September 2017 transfer to the LLC.

The Sad Facts

Couple the fact that the named insured was no longer the owner with the fact that an LLC is not eligible for a homeowners' policy, and you can come to only one conclusion - the carrier appears correct in its real property claim denial. Upon the dwelling's transfer to the LLC, a landlord's policy using the DP program or a lessor's risk only policy should have been written to cover the dwelling and the LLC's liability exposure.

But, we cannot expect a homeowner to know to do this, unless they are advised by the trusted professional. The attorney or other financial planner should have told the insured that transferring ownership essentially negated his homeowners' policy, advising him to purchase coverage in the name of the new owner, the LLC. The “former" owner could still have insured the contents and his personal liability on an HO-4.

Luckily in the case above, the carrier did agree to cover the contents.

A Reminder to All

Insurance agents are also depended upon as trusted advisors. The insurance consuming public does not know, and is not expected to know, anything about insurance – that's the agent's job (another reason direct purchase insurance is detrimental to the buyer).

When the insured calls to say, “We did this," or “If we do this, what do we do," agents must know what to do or the answer to the insured's question. If the insured called you to say, “We just transferred title to our house to an LLC," you need to understand the legal ramifications (insurable interest) and the eligibility problems.

But an agent can't act until the situation is known. Agents are not charged with being mind readers; but they are charged with knowing the product. Know the questions to ask and know the answers, or where to find the answers.

Back to the Lawyers

Several months ago we penned an article discussing the potential coverage gaps created by tax attorneys and CPAs arising from recommendations to change the entity type; the issue of ownership changes creates the same problem. As ridiculous as it sounds, don't assume the “owner" actually is the owner, ask specifically who owns the property.

With this simple question, an agent may learn that the “person" owning the property is not the person named on the policy. When discovered, changes must be made.

Because it appears the attorneys don't have a clue how to address the insurance issues – agents must be ready to clean up the mess their recommendations leave behind.

Other Articles

Within the VU there are several other articles discussion this same ownership issue:

Last Updated: March 2, 2018