BlockChain for Property Title insurance

What is title insurance?
Title insurance exists to protect the financial interests of the property owner or mortgage lender during a real-estate transaction against losses which occur due to title defects. Such defects may include outstanding encumbrances like liens and easements which remain unaccounted for at the time of the transaction. Title insurance premiums are determined on the basis of insurer’s cost to conduct a title search in the public record, rather the actuarial risks of losses. Additionally, there is a profit margin of around 2% to 5%. The overall strategy is to reduce claim losses (5% to 7% of premiums) but high fixed costs are borne by insurance companies, resulting in higher premium values for their clients.

Pain points for title insurance companies

Paper-based title records
Manual and paper-based recording of property titles is mostly the reasons for title defects. Around 30% of titles are found defective at the time of property transactions according to American Land Title Association. Deeds, mortgages, leases, court orders are recorded in a ‘chain of title’. This leaves room for human error.

Decentralized record structure
Property records are mostly decentralized and are stored at the county level. For this reason, title insurance companies have to build their own title plants (database of title records). This is laborious, time-consuming and sometimes quite expensive, as title records have to be linked geographically.

Increased transactions cost
Premiums costs range from $1000 to $1800 on average, which represents 0.4%-0.6% of the overall cost of a property valued at $250,000. Buyers and refinancers of both residential and commercial properties have to pay these premiums.
Due to all the above pain points, insurance companies have to employ an increasing number of people to search, examine and cure property titles which result in the higher operational cost. Headcount costs represent nearly 75% of the total cost distributed among curators, abstractors, search and examination personnel, lawyers and sales/marketing staff. According to the detailed report, in an industry of $12 billion, $9 billion is headcount cost. Highest among the headcount costs are the agent commissions.

Current of mode of business
During any real estate transaction which is financed through the mortgage, buyers have to obtain title insurance, as it is a mandatory term from financing institutions. This process consists of following steps
• Property owner files for title order entry to a title insurance company.
• Title insurer searches and examines the property title either using one of their own title plant or some other company’s plant. Around 70% of the times, titles are found without any defect and the owner’s policy request are approved for further processing.
• But for the remaining 30% occasions, titles are found defective. Insurance companies then use reviewing (abstractors) and clearing (curators) labors to fix these defects.
• Once the title is found clear of all the encumbrances, the title insurer will issue policy against the title.
• Property buyer will now have to pay an insurance premium which is also the fee for the policy.

How can blockchain help?

Blockchain can help in reducing cost borne by the insurers and can be used as a primary source of records instead of local real estate records. Following are some of the key benefits which blockchain with its distributed architecture can bring into title insurance sector.

Elimination of paper-based records
Paper based system of recording property titles can become very obsolete with blockchain. The main reason is that all the transactions will be recorded and stored on a decentralized ledger which is highly secure and transparent. More importantly, the integrity of such a system can never be challenged as it based on consensus between all the network nodes. We strongly believe that it will not only reduce the probability of error introduced in the ‘chain of title’ over the time but also reduce chances of title fraud. Though, even with the introduction of blockchain it won’t be completely human intervention free environment but will much more efficient and secure.

Consolidated Record of titles
Another big advantage blockchain will bring into title insurance industry will be the consolidation of localized public records. This aggregated database will be accessible and will reduce the requirements for title insurers to maintain their own title plants. It will significantly reduce operational costs for such companies leading to overall lower costs for the property buyers.

According to First American Financial, around 30% of the claims are caused by liens and 15% by encumbrances. Blockchain can not only help us in analyzing the causes of these claims but also reduce the number of such claims.
Blockchain can disrupt the whole process of title searches by eliminating various problems associated with it. By producing higher data integrity and availability, it is believed that need for manual labor will reduce especially with regards to examination and the curative process of property titles. Blockchain will also reduce the extent of actuarial risks involved in the real estate transactions as property title information would be readily available which will ultimately reduce the losses for title insuring companies. Reduction in operational costs will be passed by insurance companies down to their clients, even after maintaining healthy profits. So blockchain can meaningfully reduce the overhead costs involved during the real estate transactions.

Quantifying the opportunity available with blockchain
According to Goldman Sachs Report , blockchain can realize cost savings of nearly $2 to $4 billion on the basis of reduced headcount and other risks involved. Headcount savings are estimated to be around $2.3 billion. Major reason for it will be the reduction in the headcount dedicated to search & examination, abstraction and curative duties. This combined with 20% reduction in variable expenses like sales & marketing force and agent commissions will be very crucial for the industry.
Blockchain can derive $550 million in claims and legal savings annually. According to the report, if the combined effect of reduced headcount and claim losses is quantified and applied to savings per policy. It will give us average premium per policy of $864 from an average of $1200 currently. Regular profit levels (2%-5%) are kept constant during this estimation. A reduction from 0.5% of a property valued at $250,000 to 0.3%, which is quite significant. Though this is a significant positive development for buyers but it may lead to reduced size of the whole title insurance industry.
In this report, Iowa has been mentioned as a point of reference. Iowa is the only state which maintains complete government control over the title insurance industry in order to reduce insurance premiums borne by the property buyers. Still, it has the lowest loss rate compared with any other state. It is due to the centralized system of property record and highly optimized operational costs. As there is less need for marketing and sales staff, headcounts are low leading to lower premiums.
It is believed that blockchain technologies can introduce efficiency levels at par with the Iowa state model for title insurance. Overall blockchain will lead to $3 billion dollar savings with highest savings in agent commissions and search & examination costs. Both $0.8 billion each.
References
Schenider, J. (2016). BlockChain : Putting theory into Practice. Goldman Sachs.