Gap closings have long been an integral component of commercial real estate transactions.
Recent metrics suggest not only that this trend will continue, but that gap closings will be utilized on an even more frequent basis.
Gap closings facilitate the efficient conveyance of real estate on a remote basis—a quality that has particular significance due to the ongoing COVID-19 situation. The pandemic-induced, large-scale shift to telework in addition to the continued enforcement of social distancing safety protocols makes it essential for real estate professionals and their clients to fully comprehend the benefits of gap closings as well as potential issues they may need to navigate.
What are Gap Closings?
Real estate transactions in which there is a window of time between the delivery of all documents and funds and the completion of their recording are referred to as gap closings. Just like conventional closings, there is an issuance of a title policy covering from the date of the most recent title commitment—meaning that the title insurance company covers any liability concerns between the closing and recording processes.
Gap Closing Scenarios
There are several potential scenarios that could result in this “gap” of time. For example, there is a recording lag in a number of states which means that although all of the needed recording documentation are provided on closing day, it may subsequently take weeks for them to be actually recorded. The effects of the coronavirus, including governmental orders curtailing operations of registries of deeds and affiliated service providers, have collectively functioned to extend recording lags since March 2020.
These gaps can also arise when the buyer and seller reside in different states and the property is located in another state altogether. In such situations, the closing process is usually processed by the buyer’s title company in their resident state. It is the title company’s responsibility to coordinate the exchange of all documents, record all closing paperwork and receive/disburse funds.
The Risk of Gap Closing
The inherent risk associated with gaps is an intervening issue of record or title, including liens or adverse judgements against the seller, which are recorded between closing and recording. If something pops up on title between closing and recording, this could result in the buyer and lender not receiving the quality of title that they initially agreed on. Luckily, if that happens, it will be up to the title insurer to cover any resultant liabilities.
Several states allow electronic recording to mitigate the risk of gap complications. Technological advancements and the uptick in telework roles make it likely that more jurisdictions will follow suit in the near future. However, the increased frequency of portfolio transactions entailing the transferal of several properties at once across multiple jurisdictions makes it challenging to record on the same day that closing takes place and makes gap closings an increasingly necessary occurrence.
So, which party shoulders the liability associated with gap closings? In some states, the default assumption of risk is assigned to the title company. That risk can be partially mitigated by updating title right before closing, which effectively reduces the gap, and by the title company overnighting documentation to an agent located in the property state that immediately records them. Additionally, title companies often try to spread liability by mandating a gap indemnity, in which the seller repays the title company for any costs associated with resolving matters occurring between the commitment date and final recording. When it comes to indemnification, it is important to ensure that the responsible party have the financial capacity to fulfill their obligation should the need arise. Oftentimes, the holder of a commercial real estate property is a single asset entity shoes sole asset is the property itself. After that property has been transferred to the buyer, any party seeking recourse against the seller may have issues getting paid. Accordingly, the advisable method is to request the seller’s parent company or affiliate to provide gap indemnity.
The lender should also ensure that the closing instruction letter in gap closing scenarios obligates the title company to issue the policy as it was negotiated for notwithstanding any subsequent intervening matters of record. Importantly the lender should never agree to close with a gap without gap coverage because there is a chance that something can be recorded on title between closing and recording.