Questions About Lender Policy Development?

Q&A with the Experts on Our October Webinar

On October 29, 2013, EDR Insight hosted a webinar, titled Learn from the Experts: Critical Elements of Effective Environmental Policies. At the event, three speakers shared their tip for lender environmental policy development. Teaming up for our event were:


Due to the high volume of questions submitted during the live event, we were unable to address all of them in the available time frame.  The questions we did not answer during the webinar are organized below, followed by answers provided post-event by the speakers:

Question:  Is there a regulatory requirement for doing Phase I environmental site assessments on foreclosed properties?

Larry Schnapf: The banking agencies state that a prudent environmental risk management policy should require environmental assessment prior to foreclosure. From a liability standard, banks can foreclose and remain within their secured creditor exemption if they take commercially reasonable steps to sell the property. What that means is unclear so I, and many other lawyers, recommend lenders should assume they will not have the secured creditor exemption when making foreclosure decisions. In such cases, a Phase I should be done since it would enable a lender to assert one of the liability protections.

Georgina Dannatt: There are some instances where a bank may choose to foreclose with a lower level of due diligence (e.g., do a Transaction Screen for a low risk property such as a newer apartment building constructed on previously vacant land in a non-industrial area). It also may depend on what due diligence was performed at loan inception and how long ago. Most banks always do a Phase I ESA, though the report may be stale by the time they actually foreclose.

Question: Are you seeing lenders who include language in their loan documentation which allows them to conduct periodic environmental due diligence, at the customer’s expense, during the life of the loan if they feel it is merited due to the type of property or the types of operations which occur?

LS: Good environmental loan provisions will grant lender a right to periodically conduct assessment of environmental issues. The particular circumstance when that right may be invoked varies among the lenders. Sometimes, it is following receipt of certain information, other times it is in sole discretion of lender, etc. Usually, this right is limited to once a year subject to a specific event occurring.

GD: It is not very common to have specific updates for due diligence assessments written into the loan agreement, though it can be done.  In one case, a semi-conductor tenant had to obtain a new Phase I ESA every 3 years and submit to the bank and land owner.  At my first bank (regional bank, $6B), a bank vendor conducted a site visit every 3 years which was mostly to verify improvements condition, but included a few environmental questions on the checklist, and the cost was billed to the loan.

Question: What about environmental risks associated with non-real property? For instance, a bank finances a truck-mounted tank used to clean oil/gas rigs. Fracking fluids in tanks financed by bank, spill event in field, etc.

LS:  Equipment can be considered a “vessel” under CERCLA and may state superfund laws. Thus, a lender who takes title to a piece of equipment that caused contamination could become ensnared in a lawsuit. There was a case in Chicago a few years ago where a individual loaned $$ to another entity and took back a security interest in the plating equipment. The secured creditor exemption was found not to apply under the facts of the particular case. Similarly, arranging for disposal of equipment or conducting auction sale could and has triggered liability as an operator in some circumstances.

GD: The bank’s environmental policy should contain a section regarding loans not secured by real estate and specify what level of review or due diligence is required.  Take care regarding who is repossessing equipment used in conjunction with hazardous materials and ensure they have adequate procedures/protections in place, otherwise a spill of or exposure to plating solutions or dry cleaning solvent could occur when they disconnect the pipes.  Consider whether the equipment itself or wash water for cleaning it be considered hazardous waste due to residues inside the machine or tank.

Question: Aside from the concern re: knowledge of the underlying EP contract, are there any other reasons the bank should engage the environmental professional directly?

LS:  The lender who hires the consultant has better control over the scope, the actions and recommendations of the consultant. Also would not need to obtain reliance from the consultant since the lender would be in privity with the consultant.

GD: Agree- bank ordering facilitates obtaining a quality report prepared to meet the bank’s perspective, scope of work, and quality requirements, ultimately better protecting the bank.  Reports are not all equal and the each consultant’s findings are subjective.  Using a specific report format/layout also streamlines reviews.

Question: Can you speak to the risk of a recognized environmental condition, or REC, without conducting a Phase II environmental site assessment?

LS:   Not all RECs are equal and often times consultants mislabel conditions as RECs. Thus not all RECs may require phase 2. The decision to perform phase 2 involves a number of legal, credit and technical considerations. I often have my lender clients obtain insurance instead of sampling, particularly when it comes to vapor intrusion.

GD: Each bank will have its own approach as to RECs.  Some want all RECs (and many BERs too) resolved before the loan is made, while others are okay knowing the extent of the issue has been identified by a Phase I and will then accept the presence of some contamination remaining in place, and in other cases they are willing to let the issues be resolved after loan closing or not at all. Which approach is acceptable is usually specific to each site since the type of chemical/soil type/contamination depth and extent/intended use of site/etc. drives the solution . For many lenders, insurance is not an acceptable risk mitigation measure since the site doesn’t end up investigated or cleaned up (plus insurance policies require very careful review by the bank or an outside insurance consultant since many policies protect only the borrower, not the lender, and do not cover past contamination). What is a REC is an eternal question and everyone has a different approach.  Even within our presentation, the speakers have different perspectives a release associated with a heating oil tank or industrial contaminants emanating from a septic system is an ASTM REC or a non-scope BER.

Question: I thought I heard you mention that there are some sorts of environmental contamination that are not covered by the secured creditor exemption.  Could you elaborate on that?

LS:   The secured creditor exemption only applies to CERCLA and RCRA UST program. Thus, for example, it will not apply to PCB spill that is regulated under TSCA.

GD: Additionally, spills and contamination are not the only concern since there are many regulations banks are not exempted that could create liability upon foreclosure. The regs most likely to affect a foreclosing lender on non-operating businesses are RCRA (requirement to dispose of abandoned wastes) and Clean Water Act (control sediment-laden stormwater run-off). The bank would also have to continue with any remedial measures that are already in process (e.g., groundwater treatment system).  For foreclosure on an operating business with chemical activities, the whole realm of regulatory compliance for water, waste, air, and health and safety would apply while the bank is winding down operations and attempting to sell.  Many banks will put a receiver in place to resolve issues before taking title.

Question: Any  thoughts on radon?

LS:   20,000 people die a year from exposure to radon gas (second leading cause of lung cancer). Many lenders typically include radon in their SOWs for residential properties and often require sampling for radon zone 1 properties. However, there is now a push to extend this to zone 2.  HUD,Fannie or Freddie have their own radon requirements which can vary on type of testing and when testing needs to be done.  Some multi-family properties have become embroiled in litigation and suffer vacancies when a radon system was found not to be properly working.

GD: A lender may require opt to require remedial action when foreclosure is planned and the bank will acquire landlord responsibilities.


NOTE TO READERS:  EDR wishes to thank our presenters for contributing their time and expertise to a well-received and timely presentation!

If you missed the event, or attended and want to listen to it again, a replay is available here.