December 8, 2011

Question from James, Banker from St. Cloud, Minnesota: Our bank is considering a proposal to refinance a commercial property in town. The property is valued at just over $1 million. Our lending policies require that a Phase I Environmental Site Assessment (Phase I) be completed. The property has been owned by the current owner since the early 1980s. A Phase I has never been prepared for the site. We understand that one of one of our competitor banks does not require a Phase I for a loan such as this. The property is in a former industrial area so there may be some concerns with the condition of the property. When financing, is a Phase I always required?

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Lenders involved with financing or refinancing property should be concerned about the environmental condition of the subject property. Under federal and state Superfund laws, owners and operators of property where there is a release of hazardous substances may be liable for response costs which include investigation and remedial or removal actions. Transporters and companies that generate hazardous substances that were disposed at a facility may also face cleanup liability.

Although a lender may not be liable under federal and state environmental laws for merely holding a financial interest, a lender should, nonetheless, be concerned about potential environmental concerns associated with the property. If a property is contaminated and the owner does not have the financial resources to deal with issues that are discovered to be a concern, the bank may find that it may have exposure, especially if the owner does not have the resources to deal with an identified problem. If a bank has to foreclose, the bank may be forced to deal with the underlying condition(s) of concern.

For certain properties, some banks perform a transaction screen which is designed to identify or “red flag” obvious environmental issues. However, a transaction screen may not reveal more serious issues that could be discovered at some future date. Lenders that conduct the more extensive Phase I review of property, the standard practice for environmental due diligence, will have a more thorough and comprehensive report to rely upon.

Liability under federal and state Superfund laws is retroactive, joint and several. Liability applies to any site (regardless of the property’s size or value) where there has been a release of hazardous substances (regardless of the size of the release.) By conducting a pre-purchase or pre-financing Phase I, an owner or, in this case a lender, is completing “all appropriate inquiry” as required under applicable law. It is critical to select a competent and experienced environmental consultant so that the Phase I report is of the highest quality and meets the appropriate standard of care.

If “recognized environmental conditions” are identified in a Phase I, further assessment of soil or groundwater conditions may be required. In addition, where groundwater contamination may be present, it may be appropriate to assess soil vapor gas. Soil vapors are a new found concern. Because soil vapors may accumulate under building slabs, vapors may enter into occupied spaces. This potential danger has caught the attention of regulators and they are requiring more testing and, when appropriate, corrective measures.

To limit future liability it is prudent for a purchaser, owner or lender to investigate issues and determine what steps should be taken to mitigate any concerns. Often state or federal agencies may determine that an investigation is adequate and that an owner or lender is not associated with an identified issue. With a completed site assessment in hand and, if issues are discovered and then addressed by a government agency sign off, the transaction may proceed.

The lawyers at the Hessian & McKasy’s Environmental Law Attorney Practice Group regularly advise clients involved with the purchase, sale and financing of all types of property including commercial and industrial property. We make recommendations as to the retention of environmental consultants, review Phase I reports and assess whether follow up testing may be required. We analyze liability concerns and provide opinions as to risk. When appropriate we seek liability assurances on behalf of our clients from state or federal authorities. For a consultation as to a specific property or situation, please free to contact us at 612-746-5754 or by emailing Joseph Maternowski at jmaternowski@hessianmckasy.com

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