The ubiquitous Phase I environmental report is hopefully familiar to everyone involved in commercial property development. As an initial evaluation of potential environmental conditions on a property, it obviously serves as a valuable tool for a prospective purchaser of commercial real estate. The Phase I also serves an additional – critical – function. It is the foundation and first step of establishing liability protection for any known or unknown environmental contamination on the property. But while it is the foundation, it is not the sole requirement needed to establish liability protection, and the developer who forgets that proceeds at its peril.
Environmental liability can come in many forms. But for a developer of commercial real estate, the one to watch out for is liability under the federal Comprehensive Environmental Response, Compensation, and Liability Act, commonly known as CERCLA – and its state law equivalents. CERCLA, and its parallel state statutes, are the laws that primarily govern a property owner’s obligation to pay for the clean-up of environmental contamination. And these laws generally start from the proposition that if you own the property, you are responsible for the cost of cleaning up any environmental contamination on the property, regardless of whether you actually caused the contamination.
Given that such a draconian regime would bring commercial property development to a screeching halt, particularly in urban environments, CERCLA has been amended over the years to provide a series of defenses to property owners whose sole basis for liability is ownership of the contaminated property. The three defenses of greatest interest here are: (1) the bona fide prospective purchaser defense; (2) the contiguous landowner defense; and (3) the innocent landowner defense. These defenses allow the purchasers of commercial property to establish liability protection for the costs associated with remediating environmental contamination.
The bona fide prospective purchaser defense provides a defense for known environmental contamination. Where the property is known, or discovered, to be contaminated prior to closing. The innocent landowner defense provides a defense to liability for unknown environmental contamination on your own property. And the contiguous landowner defense provides protection for unknown environmental contamination originating on a neighboring property.
Each of these defenses comes with a list of requirements that the property purchaser must meet in order to receive liability protection. The first requirement is that the purchaser must have performed “all appropriate inquiry,” i.e. obtained a Phase I, prior to closing on the property. But that is just the beginning. The defenses have additional requirements that must be met, and many of them impose continuing obligations that do not end with the acquisition of the property.
To qualify for liability protection under any of the defenses the purchaser must do five things:
- Provide all legally required notices;
- Provide full cooperation, assistance, and access to authorized persons engaged in remediation activities;
- Comply with all information requests and administrative subpoenas;
- Comply with all land use restrictions and institutional controls; and
- Take “reasonable steps” with respect to hazardous substance releases.
The first three requirements are usually the most straightforward, and least burdensome. The last two, however, can impose a significant burden on property owners, and pose the greatest risk of being inadvertently violated.
Land use restrictions and institutional controls (for the purpose of CERCLA) can take many forms, but generally fall into four categories: (1) government controls (e.g. zoning); (2) proprietary controls (e.g. covenants and easements; (3) enforcement documents (e.g. orders and consent decrees); and (4) land records/deed notices. Some restrictions and controls are simply prohibitory, e.g. forbidding drinking water wells on the property. Others may require affirmative action, e.g. maintaining an impermeable cap on the property or providing notice to subsequent purchasers. A property may quite commonly be subject to multiple restrictions and/or controls. An owner who fails to comply with restrictions, or who does something to impair the effectiveness of the restrictions or controls, runs the risk of losing all liability protection. Property owners should therefore be very careful to ensure that they understand the nature of any restrictions or controls before purchasing a property. Those restrictions may have significant impact on how a property is developed.
Property owners are also required to take “reasonable steps” regarding known contamination on the property. Those steps require the property owner to: (1) stop any continuing releases; (2) prevent threatened future releases; and (3) prevent or limit human, environmental, or natural resource exposure to existing releases. This requirement varies somewhat across the three defenses. By definition, the innocent landowner and contiguous landowner must be ignorant of the contamination at issue at the time the property is purchased. Therefore this requirement will only come into play once the contamination is discovered. By contrast, a property owner seeking to invoke the bona fide prospective purchaser defense, having notice of the contamination prior to purchase, must comply with this requirement from the outset.
Generally speaking, “reasonable steps” do not require the property owner to conduct a full remediation of the contamination. But depending on the scope and nature of the contamination, compliance with this provision could still involve incurring significant expense. And there is ample opportunity for missteps. Once a property owner becomes aware of contamination, he or she must move promptly to take “reasonable steps.” Failure to do so, or even delay in doing so, may constitute a waiver of the bona fide purchaser defense.
Hopefully all commercial property developers are aware of the need to conduct a Phase I prior to purchasing commercial real estate. But it is critically important that property developers (and their lenders) don’t stop there. Failure to meet all of the obligations required under CERCLA and its parallel state statutes can result in enormous unanticipated liability, liability that might have been avoided.
Alex P. Basilevsky focuses his practice on complex litigation and environmental law. He can be reached at 215-665-3094 or email@example.com