Phase I Environmental Site Assessments Are They Enough?, 0418 COBJ, Vol. 47, No. 4 Pg. 48

Position::Vol. 47, 4 [Page 48]

47 Colo.Law. 48

Phase I Environmental Site Assessments Are They Enough?

Vol. 47, No. 4 [Page 48]

The Colorado Lawyer

April, 2018



This article discusses Phase I Environmental Site Assessments, focusing on the scope of protections they offer in real property transactions.

Transactional attorneys and lenders often rely exclusively on a Phase I Environmental Site Assessment (ESA) as part of their due diligence. However, this reliance may be misguided, depending on the anticipated future use of the property and the lenders,' tenants,' or purchasers' expectations. For this reason, it is imperative to ensure that clients understand the scope of the ESA so they can evaluate whether additional due diligence is necessary.

ESA reports are prepared in compliance with the American Society for Testing Materials (ASTM) Standard E-1527-13. As more fully described below, the ASTM standard satisfies the Environmental Protection Agency (EPA) All Appropriate Inquires (AAI) rule codified at 40 CFR Part 312. The AAI rule generally provides purchasers of real estate with a safe harbor against federal liability for environmental hazards, which is an important protection from a federal liability standpoint. However, federal liability for environmental remediation is not the only potential environmental issue when purchasing real property. There is much that an ESA does not address that can be problematic for lenders, tenants, or purchasers of the real estate. While the ESA can provide important information, it is not a proactive investigation. Rather, the ESA comprises a historical document or records search and limited visual inspection.

This article addresses what information the ESA does and does not provide, what protection an ESA may provide, and what kinds of environmental investigations should be considered in addition to obtaining a basic ESA. While the tide "Environmental Site Assessment" sounds comforting, a whole host of potential environmental problems are not addressed by this kind of evaluation. Parties that consider a basic ESA to be sufficient for all their environmental due diligence proceed at their own peril.

Readers should be aware of two caveats about this article: The author practices primarily on Colorado's Western Slope, so his environmental due diligence experiences are derived predominantly from parcels earmarked for commercial or residential development, ranch and farm properties, areas impacted by historic mining activity (i.e., gold and silver), and new and historical hotel properties and commercial buildings. Second, the article's focus is narrow; it does not address a host of federal and state environmental laws, rules, and regulations that may be implicated in any transaction.

Why is an ESA Required?

Congress passed the Comprehensive Environmental Response, Compensation, and Liability Act (CERCLA) in 1980.1 CERCLA, commonly referred to as the Super fund Act, establishes a basis for liability of potentially responsible parties (PRPs) to the cleanup of hazardous sites. CERCLA is a strict liability statute, which imposes liability on a PRP regardless of negligence or intent, and further imposes joint and several liabilities.2 CERCLA's strict liability reaches many PRPs, including former owners or operators of the property. Thus, the third-party defense of an "innocent purchaser" or "innocent landowner" developed. Initially a creature of common law, and later codified in the 1986 amendments to CERCLA,3 the innocent purchaser defense developed to except PRPs who did not know or have reason to know of site contamination from cleanup costs associated with the property. A purchaser may claim this defense to avoid liability under CERCLA4 by demonstrating that it was "innocent" of the contamination through a showing that it performed the requisite due diligence with respect to the property at the time of acquisition, whether through a sale or lease transaction.5 The ESA emerged from the requisite due diligence of the innocent purchaser defense.6

The due diligence required under CERCLA is "all appropriate inquiries" into the property,7 and the ESA generally constitutes such AAI.8 Therefore, the ESA is necessary to prove the innocent purchaser defense. Lenders are specifically exempt from CERCLA liability so long as they do not participate in the management of the facility or property.9 However, with every real estate loan the lender must consider that it will end up owning the property if the loan defaults. For that reason, a lender will want a clean ESA as a funding condition. If a default occurs years later, an update of the ESA should be obtained before acquiring the property by foreclosure, by deed in lieu of foreclosure, or out of a bankruptcy. It may be cost effective to have the environmental consultant who prepared the original ESA also perform the update.

CERCLA Liability Exemptions

In 2002, the Small Business Liability Relief and Brownfields Revitalization Act10 was passed, which amended CERCLA. In relevant part, the Act provided additional exceptions to CERCLA liability, namely the contiguous properties exemption and the bona fide prospective purchaser exemption (BFPP).11 The contiguous properties exemption provides that a person who owns property contiguous with a contaminated property will not be liable under CERCLA if the person:

■ did not cause or contribute to the release;

■ is not a PRP through any affiliation (contractual, familial, corporate, or financial);

■ takes reasonable steps to stop and prevent any future release;

■ provides all legally required notices regarding discovery or release of hazardous substances and cooperates in full with the recovery and cleanup effort; and

■ conducted an AAI at the time of acquisition and did not know or have reason to know at that time of contamination from the contiguous real property not owned by that person.12

The BFPP is separate from the innocent purchaser defense and provides purchasers and tenants another avenue to avoid CERCLA liability. As discussed above, the innocent purchaser defense is available to only those purchasers who conducted AAI into the property and who did not have, or did not have any reason to have, knowledge of contamination by a release or threatened release of hazardous substances. The BFPP is available to those purchasers who did have knowledge or reason to have knowledge of contamination, but who also conducted AAI and who:

■ acquired ownership of the property after January 11, 2002;

■ establish that all disposal of hazardous substances occurred before acquiring ownership;

■ show that the AAI was conducted in accordance with generally accepted good commercial and customary standards and practices;

■ provide all legally required notices regarding discovery or release of hazardous substances; and

■ exercise appropriate care and take steps to prevent any further releases and harm, and fully cooperate with the recovery and cleanup effort.13

In short, the BFPP is available to those purchasers and tenants who satisfy these conditions, including the AAI requirement; who do not impede cleanup efforts; and who are not impermissibly affiliated with a PRP.

EPA Guidance

In 2012, the EPA released a guidance memorandum that provides for enforcement of the BFPP as applied to tenants.14 In this memorandum, the EPA was clear that it did not create new rights and liabilities and did not establish a new rule; rather, it was merely shedding light on how it intended to enforce the BFPP provisions with respect to tenants. Tenancy is tricky with respect to BFPPs because a lease most likely falls within the affiliations that are prohibited under the BFPP exception. That said, the EPA chose to treat leases as not prohibited affiliations, but on a site-specific basis—that is, the EPA will make these determinations on a case-by-case basis.[15] For tenants of properties whose owners meet the BFPP status, the EPA will attribute the BFPP status to the tenant as well—so long as the owner maintains that status. Tenants have no independent duty to satisfy the BFPP requirements, including conducting an AAI. However, if the owner loses the BFPP status, it is likely that the tenant would also lose the BFPP status. But the EPA may choose to treat the tenant as a BFPP if the tenant was not at fault in the owner losing the BFPP status and the tenant meets all the requisite BFPP criteria. Additionally, if the owner never had BFPP status, but the tenant meets all the criteria, the EPA may treat the tenant as a BFPP.16

The Phase I ESA

A Phase I ESA is limited in its scope and coverages. The ESA's purpose is to identify "recognized environmental conditions" (RECs). An REC is the presence or likely...

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