When most lenders, owners and lawyers think of title insurance, they (quite rightly) think of insurance that covers risks associated with title matters. The answer is in the name, as it were.

However, for the time being at least, one may be able to entertain a more expansive view of what constitutes an insurable risk under a standard form title insurance policy, because the Ontario Court of Appeal in MacDonald v Chicago Title Insurance Company of Canada, 2015 ONCA 842, has just released its written judgment which, in a nutshell, supports the position that work done without necessary building permits or governmental approvals that is not discovered until after closing, and which leads to loss to the insured purchaser, can be a cause of such title not being marketable by the insured purchaser, and therefore can constitute an insured risk.

The relevant facts are as follows. MacDonald purchased the property in 2006. At the time of purchase they obtained a title policy from Chicago Title. What MacDonald (and Chicago Title) did not know at closing is that structural work had been done to the home prior to closing without the required building permits or approvals. In 2013 the City of Toronto issued work orders to have work done to the property so as to ensure its safety.

The standard form title policy provided that it insured "against actual loss resulting from the following covered risks, if they affect your Title on the Policy Date, or to the extent expressly stated below, if they affect your title [sic] after the Policy Date". For the purposes of the policy, "title" meant "the ownership of your interest in the Land, as shown in Schedule "A"".

As the basis of its claim, MacDonald pointed to the "loss of marketability" coverage in article 11 of the policy, which language provided for coverage where "your title is unmarketable, which allows another person to refuse to perform a contract to purchase or lease or to make a mortgage loan". There were other coverage provisions of the policy that MacDonald purported to rely on, but the Court found that, for the purposes of the appeal, it was sufficient to focus on article 11 alone.

First and foremost, the Court predicated its finding with confirmation that insurance coverage provisions must be interpreted and construed broadly.

It is also important to note that the Court found that Chicago Title had not contested that the faulty condition of the Property would meet the second part of the test, namely that it would allow "another person to refuse to perform a contract to purchase or lease or to make a mortgage loan." With the satisfaction of this part of article 11 apparently being conceded, the case came down to two things: did the faulty condition render the title "unmarketable", and if so, did any of the express policy exclusions exclude coverage.

The Court made the following findings:

1. The fact that the property could, despite the faulty construction, be sold to a third party at a cheaper price, does not make the property "marketable".
2. The condition of the property flowed "directly from the failure of the previous owner to obtain the necessary municipal approval... and that failure has made the appellant's title unmarketable within the meaning of clause 11 of the Title Policy."

Curiously, the Court made an interesting distinction in order to come to this determination. Inherent in finding that this was a matter of the marketability of title was that the Court found that the underlying defect was the lack of necessary building permits/approvals, not the improper construction of the building.

Having found MacDonald's title to be unmarketable for the purposes of clause 11 of the policy, the Court turned its attention to the exclusions and limitations in the policy. Chicago Title pointed to only one exclusion: that coverage was unavailable where the risk first affected the title after the policy date. The Court did not accept Chicago Title's position, and instead found that "title was unmarketable within the meaning of the Title Policy from the moment they acquired the Property, even if they were not yet aware of the fact" such that "the unpermitted construction was an existing defect that crystallized when the appellants became aware of the defect".

There are more than a few points of interest that flow from this case.

Firstly, is the issue of the intent of the policy and the provision. Chicago Title argued (unsuccessfully) that the improper construction of the property was a latent defect and that it was not the intention of the insurer to insure against latent defects. Putting intention aside, the Court focused on the overall bias towards reading insurance coverage provisions broadly and reading insurance exclusionary provisions restrictively. The insurer, therefore, bears the risk that its language can be read more broadly than it intended. This raises the obvious question of whether Chicago Title (and other insurers) will need to amend their marketability coverage to specifically address this point.

Secondly, it raises the question of how title insurers are to underwrite the risk that a prior owner has obtained all necessary permits and approvals for work done. If an off title enquiry is made to the municipality or region, and the response is "clear", that is only an indication that the municipality or region is unaware of outstanding work orders or building permits. It is not an indication (or confirmation) that all requisite permits or approvals were obtained for the building.

Curiously, however, what the Court did not address (because it stopped its analysis on clause 11 of the policy), was the coverage set out in clause 16 of the policy, which provided coverage where "you are forced to remove your existing structure... because any portion of it was built without a building permit from the proper government office or agency".

One can only speculate that the Court avoided this provision because the facts did not squarely fit with the test "you are forced to remove your existing structure". But what this clause 16 does provide is some colour on what the insurer was prepared to insure against. Conceptually, clause 16 is insurance against the failure of a prior owner to get a proper building permit or approval, and although the Court does not say so (or even imply so) one might speculate that this provision coloured the Court's determination that clause 11 included coverage for defects existing due to the lack of permits/approvals.

Another curiosity of this case, which is perhaps also tied to the colour of clause 16, is that the Court made a point of expressly denying Chicago Title's assertion that the improper construction was the cause of the lack of marketability and instead stated that the specific cause was the lack of requisite permits/approvals. This is an interesting distinction because there was nothing in article 11 (the provision on which the case turned) that appeared to require this distinction. Arguably, had the work been property permitted and approved, but was still faulty to the point of affecting marketability, then such work would have amounted to an uninsured latent defect. In addition, in pointing the finger at the lack of approvals/permits, the Court may have been somehow identifying the risk as something searchable and discoverable, in the same nature as one searches and discovers open building permits and work orders, and in doing so, wrapping the cause in the blanket of so-called title and off-title matters. Yet there seems to be something broken in this approach, because unlike work orders and building permits, which are searchable and discoverable, unpermitted work is not so easily discovered. It certainly won't show up in a municipal search because the municipality doesn't know what it doesn't know. And unpermitted work will more than likely not show up in a customary property inspection, unless it is so obviously deficient that a reasonable inspection would discover it. So really, what the Court has done, is take what we would ordinarily consider a latent defect, and recharacterize it as a "title deficiency" because the defect occurred as a consequence of building/renovating without a permit. Or to put it another way, the Court has effectively stated that title insurance "marketability" coverage insures that the building was built and renovated with building permits. What the case does not establish is that title insurance "marketability" coverage insures that the building is in compliance with the building code for reasons other than the lack of building permits (i.e., if the permit was improperly granted, if the final inspections by the municipality were faulty, or if the building code has been amended to be more stringent since the permit was granted).

The question then, is what is the potential effect of this case. It is not clear that only serious or material unpermitted work is captured. While on the facts of this case, the underlying work was structural (rending the home unsafe), the test in the policy was whether the deficiency would "allow another person to refuse to perform a contract to purchase or lease or to make a mortgage loan". Lenders refuse to advance loans for all manner of unpermitted work, and certainly a purchaser can refuse to close a transaction where portions of the property have been built or renovated without a permit (even if the work is not a matter of safety or would otherwise be in compliance with the building code). So it is difficult to determine where the line for coverage is. The approach, however, appears to be that the Court will view the lack of marketability, not in terms of the purchaser's inability to sell or finance the property, but in terms of the purchaser being able to sell or finance the property in the state that it believed it purchased it in. And while historically "state" was generally thought of as being the state of title (and the accuracy of certain municipal responses and the like), it now encompasses the state of "compliance" of the property with building code permit requirements. From a policy perspective, this is a difficult decision to reconcile, and it has the hallmarks of so many other "deep pocket" insurance claim cases that appear more result driven ("someone has to pay for this") than good law. For my part, I would suggest that the Court too quickly discounted the introductory language in the policy that coverage is for risks that "affect your Title" where Title means "the ownership of your interest in the land", and expanded coverage from defects in "ownership" to defects in construction.

For insurers however, this does raise an interesting question. The custom in commercial real estate transactions, is for the vendor to contractually authorize the purchaser and its counsel to make written enquiries of municipal authorities with respect to building permits and work orders, but such authorization typically expressly prohibits the purchaser from requesting or permitting such municipalities to inspect the property. Perhaps title insurers will require that this practice be changed, and that purchasers make reasonable efforts to have a building inspection done by the municipality in order to have the benefit of this "marketability" coverage for permits/approvals, so that, at the very least, there is a diligence component to the risk being underwritten.

At the end of the day, this case is both fact specific and policy specific, and so it matters only for so long as there are policies that contain language that can be similarly broadly and expansively interpreted. And if the title insurance community collectively considers this to have been too broadly interpreted, then they will have to clarify and narrow their marketability coverage.

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