Lenders new to the Texas market are often surprised that Texas law requires the mortgage loan closing documents be prepared (or reviewed) by a Texas-licensed attorney. Sometimes lenders entering the Texas market will ask a title company for a recommendation and the title company will recommend a law firm that is owned or controlled by the same attorneys that have an ownership interest in the title company.
This arrangement with a title-company-affiliated law firm poses at least two major issues that lenders should be mindful of before engaging such a law firm. First, the arrangement presents an irreconcilable conflict for such law firm as the firm’s allegiance to the title company necessarily compromises the firm’s ability to properly advise the lender regarding transactions the title company is insuring. Second, there is a substantial question about whether a law firm that is affiliated with or closely aligned with such a title company can satisfy the independence of counsel requirements contemplated by Texas law.
The Title-Affiliated Law Firm Has an Inherent Conflict of Interest.
A law firm that is affiliated with a title company may have an inherent and unavoidable conflict of interest representing a lender in a transaction the title company is insuring. In such transactions, lenders should question whether such a firm is truly able to provide the lender with unbiased counsel and to advocate in the strongest terms for the lender’s interests.
This conflict of interest arises because the title company and the lender are ultimately counterparties to the transaction. Generally, a title company’s goal is to limit its risk exposure as much as possible while still collecting a premium. The lender, on the other hand, desires to have a loan policy that offers the greatest amount of coverage and protection against risk of loss. These goals are often in direct conflict.
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 inform 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 purpose of advising the lender.
In Representing Lenders, Title-Affiliated Law Firms Rarely Operate in Compliance with Texas Law.
Another potential issue with title-company-affiliated law firms is that they may not be operated in a way that complies with Texas’ practice of law requirements. Section 83.001 of the Texas Government Code restricts the preparation of loan closing documents in Texas to Texas-licensed attorneys. This rule has been part of Texas law for decades and Texas courts have specifically held that attorneys working directly for a title company DO NOT meet this legal requirement. See Hexter Title & Abstract Co. V. Grievance Committee, 142 Tex. 506, 179 S.W. 2d 946 (1944) (“The fact that the corporation has several licensed lawyers in its employment to prepare the instruments in question does not alter the case. The attorney in preparing such papers does so as the agent of the corporation by whom he is employed. His first obligation of loyalty is to the corporation. His acts are the acts of the corporation, and even though the corporation acts through an attorney, it is nevertheless practicing 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 is in violation of Rule 5.04 of the Texas Disciplinary Rules of Professional Conduct, which prohibits lawyers from splitting fees with non-lawyers. Such 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 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 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.
If you have any questions about this memo, licensing, examination, or regulatory questions, please reach out to peter.idziak@mortgagelaw.com. Please note that our firm is available for all services and issues relating to residential mortgage lending. Our team can be accessed through www.mortgagelaw.com/people.