When the buyers hire their attorney to represent them in a real estate purchase and he absconds with their money, who is liable for the loss?  According to the Appellate Division of the Superior Court of New Jersey, the title company is on the hook.  The Court refers to this as an illustration of the "north Jersey practice."  Perhaps it's time for title insurers in north Jersey to rethink their closing procedures. 

The Goodmans were purchasing a home in Somerset.  They hired their neighbor, attorney Richard Pizzi, to represent them in the sale of their old home and the purchase of the new one.  When the old home sold, the Goodmans instructed Pizzi to deposit part of the proceeds, $293,308.47, into his attorney trust account for the purpose of closing on the purchase.  Pizzi later told them that they needed to deposit an additional $20,000, which was not the case. 

Pizzi then requested Atlantic Title, an agent of Stewart Title, to issue title insurance. The request stated "This is a cash deal... this is a super rush!" Atlantic provided a title commitment showing Pizzi as the applicant and the Goodmans as the purchasers.  

After the closing, the checks issued by Pizzi from this trust account bounced and it was determined that he had stolen at least $277,717.00 of the Goodmans' funds. He was later disbarred.

The Goodmans filed a claim on their title insurance policy but Stewart Title denied it. Because the claim was denied, the New Jersey Lawyers' Fund for Client Protection paid the Goodmans for their losses and sued Stewart to recoup their payout.  Stewart's position was that Pizzi was the Goodmans' attorney, thus acting as their agent, and it sent him a notice that disclaimed liability for his his misdeeds.

THE ATTORNEY RETAINED BY YOU, OR BY YOUR LENDER, CLOSING OR SETTLING THIS TITLE IS NOT AN AGENT FOR AND DOES NOT ACT ON BEHALF OF FIRST AMERICAN TITLE INSURANCE COMPANY [sic]. THE COMPANY ASSUMES NO LIABILITY FOR ANY LOSS, COST OR EXPENSE INCURRED BY YOU BECAUSE YOUR ATTORNEY OR YOUR LENDER'S ATTORNEY HAS MADE A MISTAKE OR MISAPPLIED YOUR FUNDS. Because the attorney is not our agent, we assume no responsibility for any information, advise [sic] or title insurance promise the attorney may give or make. Our only liability to you is under the terms of the Commitment, Policy and Closing Service Letter if you choose to obtain one.

[The reference to First American was an error and probably should have been to Stewart Title.]

The theory was that because Pizzi was the Goodmans' attorney, any notice he received was imputed to the Goodmans, despite the fact that he apparently failed to pass it along to them.

The title commitment also contained the following note purporting to limit the insurer's liability:

The Policy will insure you against certain risks to the land title, subject to the limitations shown in the Policy." The cover sheet also stated in bold capital letters: "You should read the commitment very carefully. . . . If you have any questions about the Commitment, contact the local office issuing this commitment.

But, this is where the "north Jersey practice" come into play. 

In north Jersey, title-insurance carriers do not use their own employees or 'title agents' to supervise real-estate-title closings. They rely, instead, on the attorney for the purchaser, whom they must approve, to perform the functions of the title agent. The buyer's attorney in north Jersey acts as the representative of, and performs the functions for, the title insurer in the same way as does the title agent in south Jersey. All communication with title-insurance companies with respect to the purchaser are directed to the purchaser's attorney. The buyer's attorney will accept the deed and necessary title and closing documents from the seller. He or she will remove all exceptions to the title according to the title commitment. The buyer's attorney disburses all moneys; he or she will withhold a portion of the purchase price to satisfy outstanding liens and, with respect to any existing mortgage, obtain the mortgage-payoff statement, transmit the appropriate funds to the mortgagee, and receive the canceled mortgage for recording. The attorney will authorize the issuance of title insurance. 

The appeals court, relying on established precedent, held that defalcation committed by the buyer's attorney remains a risk covered under the title insurance policy, unless the title insurer notifies its insured directly that the policy does not cover such risk. It found that Atlantic Title failed to take the steps necessary to inform the Goodmans directly that the title policy they were buying did not cover the risk of Pizzi's defalcation. Atlantic Title's practice to include the disclaimer statement in an insurance commitment binder that is sent only to the buyer's attorney, does not sever, as a matter of law, the agency relationship between the carrier and the attorney.

But, there was another issue... one of timing. The trial court held for Stewart Title finding that Pizzi had misappropriated the funds before he had any contract with Atlantic Title.  Thus, at the time of the theft, there could not have been any agency relationship between Stewart and Pizzi and they could not be held liable for his actions. The trial court said that to impose liability under these circumstances was "inequitable and unfair and inappropriate in law."

The appeals court, on the other hand, found that the Pizzi's defalcation may have begun before the creation of the agency relationship, but it continued, unabated, after it was clearly established. It held that the harm caused by Pizzi to his clients cannot be isolated to any discrete act and the title insurer is liable because the chain of defalcation continued long after the agency relationship was created.

I have two observations: one regarding the north Jersey practice, and the other of the law.  First, who is the brainchild behind this absurd practice of delegating the entire closing and escrow function to an attorney with what seems to be an obvious conflict of interest? I do believe that it is a good idea to have attorney representation for real estate transactions. (See generally, my blog "A Simple Transaction.")  And, I do believe that in some situations an attorney can wear multiple hats and handle a dual representation scenario.  However, in this instance, it appears that the Goodmans hired Pizzi to represent them and it does not appear that he was a regular agent for Stewart Title.  If he had been an agent for Stewart Title and this was known to the Goodmans, and they signed an appropriate waiver, I think such dual agency can work. But in such a case, I would expect the insurer to remain liable for his acts. 

Second, as a matter of law, I believe that the closing and escrow functions should be considered a non-delegable duty. If a title agent does delegate those fundamental duties, the agent should remain liable.  But, since the law does not recognize this as a non-delegable duty, I would have to agree with the trial court in this matter.  Not because of any disclaimers that were provided to Pizzi - if they didn't directly notify the Goodmans, Stewart should be liable... if not for the timing of Pizzi's theft.

Nothing that Pizzi did after the agency relationship was created caused any loss to the Goodmans, at least not that I can see.  Even if Stewart, or Atlantic Title, had provided written notice to the Goodmans immediately upon the formation of their relationship with Pizzi that they would not be liable for his misdeeds, the money was apparently already gone. And, because the Goodmans were already under contract to purchase the home, they probably couldn't not have even backed out of the deal without incurring further losses.

According to an article on Law.com, Stewart intends to appeal.

Stewart Title's attorney, Jaimee Katz Sussner, of Herrick Feinstein in Newark, said she intends to appeal the ruling, which she says "constitutes a significant departure from settled law -- not only as it pertains to insurance coverage, but also as it will undoubtedly affect previously settled notions of agency law and vicarious liability.

"Through this decision, the Appellate Division has stated, for the first time, that a principal may be liable for the acts of an agent before the principal-agent relationship was created, or even before the principal and agent met, as was the case here," Sussner said. "There is no question that this decision will have broad implications in a number of areas that the court did not likely intend. We strongly believe that this ruling was incorrect on many levels and will be overturned."

I think that Sussner is probably right and I would expect a reversal on appeal. There are some quirks with the north Jersey practice and I would agree with the general rule that, in these situations, the title insurer is liable if it fails to directly notify the buyers that it is not liable for their attorney's defalcation.  However, because the theft took place before the agency relationship was created, it is "inequitable, unfair, and inappropriate" to hold the insurer liable, as the trial court pointed out.

Robert A. Franco
SOURCE OF TITLE