ENVIRONMENT: Three options for a buyer’s ‘appropriate inquiry’

The pre-purchase environmental site assessment (ESA) is a fairly common component of most commercial real estate transactions. The process is utilized by a buyer (prior to purchase) to determine if a parcel of real property is subject to recognized environmental conditions (i.e., is it contaminated?). It’s intended to meet the standard of “appropriate inquiry” necessary to qualify for an “innocent land owner’s defense” in the event that the property is purchased as clean, but later found to be contaminated.

This defense is afforded to property owners under the federal Comprehensive Environmental Response, Compensation and Liability Act (CERCLA) and Michigan’s Part 201 of the Natural Resources and Environmental Protection Act.

From the mid-1980s through the early-1990s, most “appropriate inquiry” effort was labeled as a “Phase 1 ESA.” The level of effort perceived as adequate varied from person to person–the scope of the early Phase 1 ESAs was generally determined by the person or company conducting the ESA. As a result, many ESAs did not meet the standard of “appropriate inquiry” and some unlucky buyers assumed a portion of the environmental liability along with their new purchase.

In 1993, The American Society for Testing of Materials (ASTM) standardized the ESA procedure. This is important since, for the first time, the level of effort considered as adequate “appropriate inquiry” for establishing an “innocent land owner’s defense” became a standardized, acceptable procedure. ASTM developed standards for two levels of assessment: the Phase 1 ESA and the Environmental Transaction Screen.

Two standards were developed because ASTM believes that not every property warrants the same level of assessment. The adequate level of inquiry depends on the type of property, the expertise and risk tolerance of the buyer, and information collected during the assessment.

What are the options?

Today’s buyer is faced with deciding who to hire and what level of assessment is appropriate for their situation. A buyer needs to evaluate the property and their exposure to ensure that the process they choose satisfies “appropriate inquiry” for their specific situation. In general, the buyer is faced with three options: their lender’s “in-house” inquiry, an ASTM Transaction Screen or an ASTM Phase 1 ESA.

Option # 1: Lender’s In-house Inquiry. Some lenders developed their own in-house environmental risk management program to assess the risk involved with the property they’re lending money on. The process is intended to reduce customer costs by eliminating unnecessary ESAs on low-risk property.

These inquiries normally include, but are not limited to, an environmental questionnaire, a brief regulatory file review and a site visit by the loan officer.

They are intended to protect the lender’s interest in the property and do not necessarily satisfy the buyer’s “appropriate inquiry.” Subsequently, a buyer should not automatically assume that the lender’s inquiry will afford them an innocent land owner’s defense.

It’s recommended the buyer obtain a complete copy of the information and have it reviewed by a qualified person before accepting it as their “appropriate inquiry” protection.

Option #2: Environmental Transaction Screen. In 1993, ASTM developed the Environmental Transaction Screen as a low-cost alternative to a Phase 1 ESA.

The process has become quite popular and is generally utilized for low-risk properties. It can be performed by anyone and includes a 20-question questionnaire (completed by the seller and occupants), a limited historical review, a limited regulatory file review and a site visit. Its usefulness is based on availability of regulatory/historical information and the existence of a knowledgeable person to fill out the questionnaire.

Conclusions generally rely on limited interpretation and non-confirmed information.When completed by a knowledgeable environmental professional, the ASTM Transaction screen provides a fairly good means of satisfying “appropriate inquiry” for low-risk property.

Option #3: The Phase 1 ESA. In 1993, ASTM also provided formal guidelines and procedures for completing Phase 1 ESAs.

This is conducted by a third party “professional” and includes a comprehensive regulatory file review, a historical land use evaluation and a site visit. Conclusions and interpretations are based on research and interviews; all information is subject to confirmation. When completed by a knowledgeable environmental professional, the Phase 1 ESA provides a fairly good means of satisfying “appropriate inquiry” for any property.

Unfortunately, the ESA process is subjective and limited by the quality and knowledge of the person performing the ESA. As a result, regulators still have wide latitude for assuming environmental liability onto a new owner, even though the new owner’s ESA did not identify any recognized environmental conditions.

Regulatory personnel tend to evaluate “appropriate inquiry” effort as inadequate if the inquiry failed to identify the pre-existing contamination, regardless of how thorough your ESA appears or is. This leaves the buyer with options of suing the company or person who conducted the ESA, going to court to fight the EPA or MDEQ (using the ESA as defense), or accepting liability.

Therefore, it’s important that the buyer make sure his or her ESA is completed by a reputable professional, that the professional maintains adequate professional insurance coverage (if they make an error) and that the ESA is completed in accordance with recognized standards.

Edward Radecki, CPG, is president and founder of Mackinac Environmental Technology, Inc. (MET), a full-service environmental consulting company with offices in Petoskey and St. Ignace. MET has been providing professional services throughout Michigan since 1990; 800-582-8806. BIZNEWS