Title defects – proceed with caution

It is important to be forward thinking when title defects are discovered on property that you own. There are often a number of options when considering how to deal with title defects. But what can seem like an easy solution at the time might in fact bring about larger problems down the line due to the strict requirements potential buyers or lenders often have.

One matter we have been working on highlighted the importance of this issue. Our client was buying a business by way of a share purchase, and the target business owned a factory where the core of their production activity took place, so it was crucial to the functioning of the business. Unfortunately, during our title review we realised a small corner of the building was located partly within the area of a registered title that was owned by a third-party, and we requested clarification from the seller.

The seller let us know they had discovered this title defect around 12 months ago. It was determined that the factory had been accidentally built on part of the third-party land over 20 years ago. Once the seller realised the existence of this title defect they needed to resolve it and there were a few options available to them.

Firstly, they could have applied to the Land Registry to register ownership by way of adverse possession. On the basis that they had been exclusively occupying the land for over 10 years without permission of the registered owner, they could apply to HM Land Registry to be registered as the owner of the land. This would start a process whereby the registered owner could decide whether to oppose the application or not. For the sake of brevity we won’t go into detail regarding the process here, suffice to say it can become a drawn out situation if the third-party decides to rigorously oppose the application.

Secondly, they could have approached the third-party to alert them to the situation and request that they sell the land in question to the seller. This can be a good option where it is anticipated that the third-party will be agreeable to selling the land, but it does risk excluding the third option set out below.

The third option would be to take out an indemnity policy in respect of the land they were occupying. In the event that the third-party became aware of the situation and tried to repossess the land the indemnity policy would cover the costs of defending the action or for the reduction in value of the land if the third-party was successful in repossessing the land. It’s important to note that if any party claiming under the indemnity policy has alerted the third-party to the occupation of the land the policy will become void.

In this situation the seller decided to go with the indemnity option as it was easy, quick and relatively inexpensive option when compared to the first two. When looked at in isolation this seemed to be a perfectly fine solution and they continued the operation of their business with no issues, safe in the knowledge the risk was covered by an indemnity policy.

However, when they later came to sell the business to our client the existence of this piece of land very much complicated the sale process. Lenders have very strict requirements when considering taking land as security and will almost always require any title defects to have been resolved prior to completion.

In this instance our client was buying with the help of a lender, who predictably, was not prepared to accept the land ownership as it stood. After considering the situation the lender confirmed they would only release funds if the third-party had sold the land to the target company.

As this was the only solution the lender would accept the seller was forced to approach the third-party to explain the situation and offer to purchase the land or risk the sale of the business falling through. However, this option was not without its downsides. Approaching the third-party alerted them to the occupation of their land, and as referred to above, this instantly voided the indemnity policy that had been taken out and the seller no longer had the protection it offered. Another issue this caused is that approaching the third-party owner to purchase the land would arguably negate any adverse possession claim under option one. By requesting that the third-party sell them the land they would be acknowledging that they are currently the rightful owner of the property.

Thankfully in our matter the third-party did agree to sell the land, however it caused increased costs for all parties, delays to completion and we needed to produce a workaround so that the sale of the business could complete before the title defect could be resolved. The seller was forced to carry out one of the solutions they originally discounted, an outcome that could have been predicted by looking ahead and considering the likely outcomes of due diligence exercises.

The important thing to take away from this is to be mindful of your future plans for your property when title defects rear their head. Taking the easiest option isn’t always the best idea if it doesn’t align with the requirements of a hypothetical buyer or lender. Best practice is to ensure any title defects are properly resolved when they are discovered, because you will almost certainly have to resolve it anyway down the line during any sale or remortgage process. It’s much less stressful for all involved to do this without the added pressure of a sale of the business to contend with!