“When a Who is Actually A What”

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This is the title of a recent article in an IRMI Update from the International Risk Management Institute, Inc. by Timothy P. O’Brien.  This article deals with the insurance issues arising from the ownership of a residence by an entity, such as a trust or LLC, rather than a person (or persons.)  Using entities to own primary residences is becoming a more frequent practice in financial and tax planning.  The entire article is worth reading, but there were a couple of points which seemed especially important.

The respective insurable interest of the parties that are involved with entity ownership of a dwelling is helpful in arranging proper insurance coverage.  In a standard, traditional primary residence exposure, the insurable interests are relatively simple.  The owner of the residence is the occupant and spouses and family members are incorporated into the definitions of a “you” or an “insured.”  However, in an entity owned residence, there are several other parties whose insurable interest must be addressed.  In the case of a residence owned by a trust, there are at least three parties that must be recognized and whose interest must be considered.  A trust will have one or more grantors who have conveyed the property into the trust.  There are beneficiaries who receive benefits from the trust, such as occupying the entrusted property.   And there is the trustee who has a fiduciary responsibility to see that the operation of the trust complies with the terms and conditions of the trust document.  (In some cases a person or persons may be a grantor and a beneficiary at the same time.)

In a trust owned residence, it is also important to understand who owns what.  Typically, the real property will be conveyed to the trust and the personal property will remain the property of the individual occupants.  But this is not always the case.  Understanding the respective insurable interest is important to proper coverage.

The intended use of a residence owned by an entity should be clearly understood.  If the intended occupancy is residential, and the occupants are grantors or beneficiaries of the trust or members of the LLC, then the use is residential and should fit within the eligibility for a Homeowners Policy.  However, if the intended use does not involve occupancy by a grantor or beneficiary of the trust or member of the LLC, then the use of the dwelling begins to take on more of the characteristics of a commercial exposure, and a Homeowners Policy may not be the appropriate coverage form.  Thus, agents should have documentation that the use of the dwelling was discussed and the coverage form follows the substance of the discussion.

ISO (in North Carolina, the North Carolina Rate Bureau) provides an endorsement to meet the coverage needs of a residence owned by a trust, Trust Endorsement (HO 32 12).  This endorsement requires that the name and address of the trust and the name(s) and address(es) of trustee(s) be scheduled.  The definition of “insured” is augmented to include the scheduled trustee(s) for Coverage A and B under Section I and Coverage E and F under Section II.  Notice that any interest of the trust in personal property is not addressed.  The definition of “business” is broadened to include “activity of any kind engaged in for economic gain” but does allow for activities of the operation of the trust.  The definition of “insured location” is revised to include only real property owned by the trust. But continues to provide coverage for temporary occupancy of non-owned premises, occasionally rented premises for non-business use, vacant land, and land on which a dwelling is being built as a residence for an “insured.”

If a grantor or a beneficiary does not meet the definition of a “you” or an “insured,” there could be gaps in coverage for such individuals.  It is, therefore, important to understand all the parties to a trust arrangement.  There may be parties who do not fit within the definitions of the Homeowners Policy.  If this is the case, documentation of such disclosure is important.

Currently there is no endorsement to adapt the Homeowners Policy for a primary residence owned by an LLC.  An LLC is a form of legal entity that has some similarities with a corporation.  It is used more typically for business entities that do not want to go the full incorporation route.  Personal lines insurers may find this type of ownership to have more of a business flavor and need coverage through commercial lines coverages.