By: M. Shane Harvey
Most lawyers and business professionals generally understand that a Phase I Environmental Site Assessment (ESA) should be conducted before purchasing industrial or commercial properties. But fewer understand the protections (or pitfalls) that come with a proper Phase I ESA. This article provides some background for purchasers and lenders (and their lawyers).
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Protection for Purchasers The Comprehensive Environmental Response, Compensation and Liability Act (“CERCLA”) imposes strict liability on property owners for the costs of cleaning up hazardous substances. In the 1980s, many purchasers of real estate ended up footing large bills to remedy historic contamination on their property caused by prior owners. |
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This, understandably, created a chilling effect on the purchase of properties previously used for certain industrial or commercial purpose.
Congress addressed this problem in 1986 with amendments to CERCLA that created an “innocent landowner” defense for purchasers who unwittingly bought property containing hazardous substances despite making “all appropriate inquiries” into the prior uses of the property.
So, how does a purchaser show that it is “innocent” because it has made “all appropriate inquiries” into a property’s history? The short answer is that purchaser must, at a minimum, have a Phase I ESA conducted by a qualified “environmental professional.”
In a proper Phase I ESA, the environmental professional will undertake a number of standard due diligence steps, including: inspecting the site, reviewing site records, inspecting government records and interviewing persons with knowledge of the site’s history. The environmental professional undertakes these steps to determine if there are “Recognized Environmental Conditions” (RECs) on the property.
If the Phase I ESA identifies a REC, the purchaser will not be able to later claim that it is an “innocent landowner” with respect to that condition. Likewise, if the environmental professional suspects a REC and recommends further investigation in the form of drilling or testing (a Phase II ESA) a purchaser who does not conduct further investigation may have trouble later claiming to be an “innocent landowner.”
On the flip side, if a Phase I (or Phase II) ESA shows no problems, a purchaser may have a strong “innocent landowner” defense in the event hazardous substances are later found on the property despite the purchaser making “all appropriate inquiries” into the site’s condition and history.
In summary, a proper Phase I ESA not only protects a purchaser from making a potentially bad business decision; it can also provide a purchaser a defense to costly cleanup liability under CERCLA.
But simply performing a Phase I ESA is not enough. A purchaser (or its lawyer) must understand the results and react accordingly. Depending on the results, a purchaser may want to:
- walk away from the transaction;
- proceed with a Phase II ESA; or
- seek concessions from the seller (such as indemnity or reduction in price).
Importantly, CERCLA does offer some protection for purchasers even where contamination is found. CERCLA contains a “bona fide prospective purchaser” defense that allows purchasers to perform a Phase I ESA and avoid liability for historic contamination if the purchaser agrees to certain controls on the future use of the property.
Protection for Lenders
Because CERCLA imposes strict liability on “owners” of contaminated property, the statute ensnared a number of lenders in the 1980s who acquired property through foreclosure.
To remedy this unfair result, Congress passed the Lender Liability Act of 1996. The new law clarified that lenders cannot be held liable as “owners” under CERCLA if they foreclose on property, even if they take steps to preserve or protect the property prior to selling or disposing of it.
The Lender Liability Act likewise clarified what steps a lender may take to protect its collateral without being deemed to have “participated in management” to such an extent that the lender may be deemed an “owner or operator” of the site who is liable for response costs.
Importantly, the protections of the Lender Liability Act apply whether or not a Phase I ESA is performed.
Nevertheless, lenders often require a Phase I ESA and there are good reasons for doing so. While a Phase I ESA may not add to the direct liability protections afforded lenders under CERCLA, a properly conducted Phase I ESA may alert the lender to problems that may affect its collateral or the borrower’s ability to repay the loan.
Final Thoughts
Reading a Phase I ESA can be intimidating. To provide complete protection under CERCLA, a Phase I ESA should follow the latest ASTM standard for environmental site assessments. The ASTM standards are logical, but contain a fair amount of jargon that can be confusing to the occasional reader.
An experienced environmental lawyer, however, can typically review a Phase I ESA quickly and provide high level advice relatively inexpensively.
This article was authored by M. Shane Harvey, Jackson Kelly PLLC.