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Pervasive pollutants: learning to evaluate the risks.

Pervasive Pollutants: Learning to Evaluate the Risks Despite several years of publicity regarding asbestos, many real estate owners still seem to feel that environmental laws do not apply to them. They believe that the EPA is intended to regulate big chemical companies and to oversee catastrophes such as the Exxon oil spill. The reality, of course, is that EPA rules cover a vast array of substances and conditions, which apply to almost every kind of business. Like it or not, owners must become knowledgeable about environmental law and begin to develop systems for the routine management of asbestos and hazardous materials.

One example demonstrates both tenant concern over environmental hazards and the widespread ignorance about the real regulations involved. Recently we negotiated a lease for a mall space with a major, national car repair franchise. The repair company's lawyers insisted on a provision in the lease that no activities involving hazardous materials would take place in the mall. They were shocked when we pointed out that the antifreeze, solvents, and other materials they routinely used were classified as hazardous after use. If we had adhered to their stipulation, we would not have been able to lease to them.

We ultimately worked out an arrangement with this company which permitted storage of certain quantities of regulated material on their premises as permitted by law. The company also agreed to pay for an environmental investigation and any necessary clean-up when they vacated the space.

In today's market, the potential of environmental hazards does not have to be a deal killer. Rather, it is a matter of recognizing the implications of environmental law and of having all parties pay their fair shares. In some cases, that idea requires a contractual reallocation of risks because environmental laws are not specific as to who may be held liable. Indeed, the EPA tends to hold everyone liable.

Too often deals involving environmental issues become more emotional than rational. A few years ago, institutions and lenders would simply have nothing to do with a building containing asbestos. Today, some savvy developers know from experience how much it costs to repair underground tanks, remove PCB transformers, or manage asbestos because they have done these things. They may exaggerate the hazard during negotiation and hold out for a huge price reduction, but in many cases, these buildings offer opportunities. This is especially true for developers who have their own inhouse staffs to manage hazards and make properties marketable.

Ultimately, asbestos, PCBs, or other hazardous materials are no different than other risks. All business transactions have risks; the question is simply how these risks are dealt with. You have to have knowledge of what the risk is. But if there is a deal to be made, the parties will determine how to allocate those risks.

Unfortunately, there are still a great many developers and lenders who require an environmental audit only because it is on the checklist; they never really review it. This tactic is foolhardy, as the owner (and the lender if it becomes the owner following a foreclosure or becomes actively involved in the owner's business) is liable under virtually all scenarios, despite not causing the pollution.

Even if an owner or lender could qualify as an "innocent person" under Superfund, it would be a hollow victory. If an owner or lender has performed due diligence and paid or lent $10 million for a property, it is a hollow victory not to be liable for EPA cleanup costs when the entire value of the investment has been virtually wiped out.

Moreover, because there are not real steps in the law that define what due diligence is, a professional real estate owner or experienced lender might have great difficulty achieving "innocent person" status.

The truth is that in most urban areas, almost all land is polluted by EPA standards. Virtually the only way to purchase property in a desirable location for a shopping center, i.e., a high-demographic, underserved area, is to buy polluted sites and clean them up. The so-called "Adam and Eve site" does not exist.

Many lawyers and consultants assume that their clients want a zero-risk environment, but this is naive. The real issue is what it will cost to clean up the property and how, when, and for how long will those costs be allocated between buyer and seller.

The problem occurs because the language of environmental liabilities is so new that owners or lenders become frightened and walk away from some great deals. If a lawyer or consultant can make these risks plain, they can be balanced against other pluses and minuses of a deal.

Auditing: The first step

Having accepted the idea that the goal is not to buy a clean site, but to know what potential liabilities you are buying, the owner still faces risks.

In the first place, most potential buyers and lenders will begin assessing a property by commissioning a so-called "phase one" audit. They assume it must be the first step because it is called "phase one." Moreover, buyers correctly assume that the phase one audit is less expensive than phases two or three. The problem is that no one really understands what a phase one audit is.

Procedures vary widely from contractor to contractor and property to property. Even within an environmental assessment company, different employees do the same job differently.

While some states license those who work on asbestos removal, this training generally does no more than teach the workers how to use the safety equipment. There are no federal standards for evaluating properties for asbestos or other hazardous materials problems.

Our firm has developed environmental auditing protocols tailored to each major property type, i.e., agricultural, post-industrial, current industrial, and so forth. The problems you are likely to encounter in an existing shopping mall are different than those on vacant land. Using these standardized procedures helps to ensure a higher quality, more consistent audit. By and large, consulting reports lack the rigor necessary to make informed business decisions.

Consulting firms are expanding rapidly, but they are often filled with young, inexperienced workers. In fact, asbestos work tends to be seasonal because so much of the work is done in the summer on school buildings. You have part-time workers with low degrees of professionalism. Consequently, asbestos work is often done incorrectly.

For this reason, if asbestos is removed, an owner might be well advised to hire an "asbestos cop," independent of the contractor, to monitor the work of the abatement contractor. By analogy, when you build a new structure, you hire a consulting architect to ensure that the work is done properly. You should do the same for an asbestos removal project. Lenders are well advised to require their borrowers to follow these procedures.

Step two: a comprehensive contract

Another key element in ensuring that abatement work is done properly is a carefully worded contract with the vendor. Contracts with asbestos removal companies are often little more than purchase orders, with few specifics about the responsibilities of the work. For a job costing $100,000 or $200,000 and with the potential of huge liabilities for improper work, this is foolish.

One common wording hires the contractor to remove asbestos-containing materials identified and sampled by another consultant. The question arises, "Is the removal contractor responsible for identifying and removing any additional asbestos-containing materials the workers may encounter beyond what is specified by the first consultant?" The answer is "no." Thus, if it later turns out that there is an asbestos release, you may have a contract claim against the first consultant, but it is doubtful that the removal contractor could be held accountable.

In reaction to this type of situation, some agreements specify that the abatement contractor remove all asbestos-containing materials. However, the EPA only regulates friable materials, that is, materials with more than 1 percent asbestos that crumble under hand-applied pressure. Consequently, under this wording, the contractor might decide to remove floor tile and other items with only minute quantities of asbestos. This decision could greatly increase the cost of abatement.

A third wording requires the contractor to remove all friable asbestos-containing materials. This language can backfire because the condition of asbestos changes. What was friable on January 1 when the removal was done may be different than what is friable on December 31. The contractor is being asked to exercise judgment without a clear definition of what is asked. If one year later, more friable asbestos is found, you have little recourse with the contractor. Obviously, these small differences in wording can have significant consequences.

The key to successful management of asbestos-containing materials and other hazardous substances at a property is to work with legal counsel and removal consultants to explore your options. It is in the self-interest of many consultants to suggest complete removal. The consequence of that bias is often an added cost for the owner.

Proper wording in lease documents is as important as that in vendor contracts to protect owners against liability. Our firm was recently involved in a dispute between the owner of a building containing asbestos and a long-time commercial tenant of the building. This tenant, which leased several floors of the property, decided to undertake some renovations, as permitted in its lease. However, when the workers began to remove walls, they found friable asbestos insulation in the ceiling, where it had been placed as a fire retardant.

When the owner was notified, he insisted that renovation stop immediately. The result was a one-year dispute over who was responsible for removing the asbestos. And during that time, the space was unusable.

The lease documents did not address the issue, as many leases drawn up before the current wave of concern over asbestos do not. From the tenant's point of view, the owner was traditionally responsible for maintaining the structural elements of a building. At the same time, the asbestos was only exposed because the tenant began renovation.

The case was ultimately settled out of court, and both parties made a contribution to the removal. However, the dispute does point out the need to know whether or not asbestos is present in a building and to keep tenants informed. Owners should conduct a baseline survey of all buildings and map and rank all asbestos according to low, medium, or high potential for friability. Tenants should be given this information.

In addition, leases should include clauses prohibiting tenants of buildings with asbestos to undertake renovation without owner approval. If a lease already exists, it may be difficult to add a requirement for notice, but tenants should at least be informed of potential risks to avoid possible tort liability.

New leases should address the issue of notice, as well as that of responsibility for the cost of asbestos removal. We generally suggest that the lease require the tenant to bear the cost of renovation, as it would under most commercial leases. The owner bears the additional cost caused by the presence of asbestos. Of course, the costs do not have to be split in this exact manner, but this division does reflect the commonly held idea that asbestos removal is a capital cost, which is traditionally paid by the owner.

Likewise, tenants must take steps to ensure that owners and managers keep them informed about the presence of asbestos or other hazardous materials in the building. Tenants should request a copy of an inspection report, especially if a renovation is being considered. The point is not who can sue whom after the fact, but rather, how all parties can be protected and informed.

A final note

The most important step in asbestos abatement is to establish a baseline of what current asbestos conditions exist in a property and to draw up an effective management plan that covers the rights and obligations of both owners and tenants.

Asbestos and other hazardous substances can be monitored and controlled safely and cost effectively. It is simply a matter of knowing what the risks are and allocating the costs accordingly.

Thomas C. Homburger is a partner and chairman of the real estate department at the Chicago law firm of Bell, Boyd & Lloyd. He has written and lectured extensively on real estate subjects and is presently in the process of preparing a book on sale/leaseback transactions for publication.

Mr. Homburger has served as chairman of the Real Property Law Committee and the Land Development and Construction Subcommittee of the Chicago Bar Association. He is also an adjunct professor of law at the John Marshall Law School of Chicago. Mr. Homburger graduated from Columbia University and the Columbia University School of Law.

Russell B. Selman is a partner and chairman of the environmental law department at Bell, Boyd & Lloyd. He represents a variety of real estate clients, including one of the nation's largest shopping center developers. He has also worked for the U.S. Environmental Protection Agency in its Office of Legal Enforcement Policy, where he received the EPA Special Achievement Award for Administrative Litigation.

Mr. Selman is a member of the Illinois, Missouri, and District of Columbia bars. He holds a J.D. degree from Washington University School of Law in St. Louis, and a master's degree in public administration from Syracuse University.
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Author:Homburger, Thomas C.; Selman, Russell B.
Publication:Journal of Property Management
Date:Mar 1, 1990
Words:2207
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