Over the last few decades, burgeoning environmental laws have pressured companies to internalize the costs of cleaning up the environment. The growing list of polluting items from the Environmental Protection Agency (EPA), the increasing costs of court procedures and settlements that run into billions of dollars every year, and the long-term potential of environmental responsibilities have created significant costs for many industries. New, complex and overlapping rules under the Clean Air Act Amendment (1990) including Compliance Assurance Monitoring, Credible Evidence and Title V Periodic Monitoring (PM) pose great potential costs to industry in terms of monitoring, record keeping, reporting, and enforcement liabilities. This article highlights current developments in this area and shows how accountants of various sized entities can plan now to meet this important area of responsibility.
The Complexity of Environmental Regulations
Because today's global businesses are accountable for their actions regarding hazardous waste and other environmental issues, they should be aware of their environmental disclosure liability requirements. In 1996, the Accounting Standards Executive Committee (AcSEC) of the American Institute of Certified Public Accountants (AICPA) issued Statement of Position (SOP) No. 96-1, Environmental Remediation Liabilities. Effective in 1997, the SOP provides guidance regarding when entities should recognize, measure and disclose environmental remediation liabilities to such financial statement users as creditors and investors and to such governmental agencies as the EPA. The SOP also expands the types of costs that may be appropriately accrued, and the ability to consider technologies under development in order to help assess the ultimate cost of remediation efforts more accurately. Potentially responsible parties (PRPs) must now use a more conservative approach than under the prior provisions of Statement of Financial Accounting Standards (SFAS) No. 5 to ascertain if they should accrue such liabilities. They must now recognize such liabilities when litigation has commenced or an assertion of a claim is probable--whenever the PRP is "associated" with that site. Moreover, PRPs must now accrue potential environmental remediation liabilities "up front," all at once; rather than when they are actually paid.
Impetus for the Standard
In 1993,  it was estimated that the nation's environmental costs (including clean-up costs) were about 2-5 percent of the gross domestic product. It also was estimated that annual costs to clean up our air, water and asbestos in buildings would he about 25, 30 and 200 billion dollars--respectively. The AICPA's 1993 Prospectus on environmental liabilities estimated cleanup costs of known hazardous waste sites at over $750 billion. It also noted that 67 percent of surveyed corporate counsels believed their companies had violated some federal or state environmental law in the preceding year, and 62 percent of other companies surveyed had known of environmental remediation cost liabilities that were unaccrued in their financial statements.
These costs and unreported liabilities affect both small and large businesses. For example, a physician or dentist who does not dispose properly of used syringes and other medical supplies faces potentially severe civil liabilities. Land surveys finding "old" pollution activities have halted the purchase of small business properties.
The public's general environmental consciousness has caused lenders, investors, corporate boards, management, underwriters, the Securities and Exchange Commission (SEC) and other governmental agencies--as well as CPAs--to focus on this important issue. Even businesses without formal environmental programs should seek to reduce their exposure to the adverse affects of such issues. Scott  notes that firms prepare financial records based on "owned" assets, but do not pay for using such environmental assets as air, water and land. Unlike financial assets, they generally do not assign positive values to environmental assets because they did not "buy" them. Vinten  adds that since firms spend much money managing waste streams to avoid incurring liabilities, they should understand that not investing in an effective environmental program might not save money.
Roussey  notes that polluters face several kinds of liabilities for non-compliance with laws and regulations--personal injury or property damage and remedial cleanup. Specifically, entities emitting or discharging pollutants into the environment face potentially large civil and criminal penalties, especially as the EPA has intensified its criminal and civil prosecution of potential violators. Employees, customers or neighbors claiming exposure to pollutants frequently file personal injury or property damage suits for exposure to emissions or discharges and PRPs face large liabilities to clean up hazardous waste sites.
Since the beginning of the 1970s, environmental regulations have increased in quantity and intensity. For example, U.S. regulated businesses must comply with more than 11,000 pages of federal regulations governing the environment, plus individual state and local government regulations. The EPA soon developed Maximum Achievable Control Technology (MACT) standards for about 100 of the 174 source categories of Hazardous Air Pollutants (HAPs) including such major categories as alumina processing, iron and steel foundries and hazardous waste incineratio.  Regulations include:
1. The Congressional Comprehensive Environmental Response, Compensation and Liability Act ("CERCLA" or "Super-fund") of 1980, imposes strict liability on site owners, transporters and generators of hazardous substances. Strict liability ignores the potentially liable party's "fault." Liability under Superfund is joint and several, making any party deemed liable potentially responsible for the entire cleanup. For example, a firm disposing of its hazardous wastes in accordance with all then-current requirements at approved facilities cannot claim a "due care" defense. Furthermore, third-parties are subject to costs of waste disposal, even if they were not involved in the hazardous waste discharge. Liability has even recently been extended to lenders of parties subject to environmental laws and regulations where the lender has functioned as a member of management of the PRP. Even bankruptcy does not provide full immunity from punishment.  Moreover, new owners or operators will generally have little protection as a result of warranties or indemnities received from sellers, especially if they buy properties that were involved m improper waste disposals.
2. The Resource Conservation and Recovery Act (RCRA) of 1976 provides comprehensive federal regulation of hazardous waste from point of generation to final disposal and is applicable to all generators and transporters of hazardous waste and owners and operators of hazardous waste treatment, storage and disposal sites. It also mandates the EPA to regulate underground storage tanks.
3. The Clean Water Acts of 1970 and 1972 require all facilities that emit pollutants into U.S. waters to obtain applicable permits. Violators (e.g., traditional "large polluters," such as utilities, as well as agriculture, construction, dry cleaning and mining entities) face cleanup, injunctive and cost-recovery actions where an imminent pollution hazard exists. Furthermore, recent Federal court decisions, especially the U.S. v. Weitzenhoff, 1 F.3d 1523 (1993) as amended (Aug. 8, 1994), have imposed strict criminal liabilities; e.g., substantial prison sentences for first-time offenders, even for unintentional violations of operating permits. The Government must prove that the discharge permit was violated and that the defendants knew their actions resulted in the discharge. The defendants cannot claim that they did not know they violated the limitations specified by the permit.
Other applicable Regulations and Laws include:
* The Toxic Substances Control Act, 1978;
* The Superfund Amendment and Re-authorization Act, 1986;
* The Clean Air Act, 1990.
Most states have enacted their own versions of these acts.
Solid accounting systems can cut spending on environmental matters. For example, Roussey  notes that with respect to the pollution control practices of 29 chemical industry plants, those with environmental cost accounting systems generated, on average, $3.49 saved for each dollar spent while eliminating 1.6 million pounds of waste per project.
One test of an adequate environmental accounting system is how well it addresses the three aspects of liability outlined below.
Once named as PRPs, polluters must measure and recognize the costs of environmental remediation liabilities on a site-by-site basis, categorized as non-compliance with laws and regulations; personal injury or property damage and remedial cleanup.
1. Non-Compliance. Entities emitting or discharging pollutants into the environment face large civil and criminal penalties. The EPA punishes pollution through civil and criminal litigation. In recent intensifying criminal prosecution of environmental violations, federal prosecutors have used as evidence of violations the entity's own internal documents that describe instances of its non-compliance. Hence, entities are well advised to use valid and robust cost systems.
2. Personal Injury or Property Damage. Employees or customers claiming exposure to pollutants can file personal injury suits; neighbors of polluters file property damage suits for exposure to emissions or discharges.
3. Remedial Cleanup. Remedial cleanup, a major environmentally-related liability under the Superfund Law, names four classes of parties responsible for cleaning up hazardous waste sites:
a. Current owners and operators of the site;
b. Owners and operators of such sites at the time of the waste disposal;
c. Hazardous-waste generators;
d. Hazardous-waste transporters.
Liability under the federal Superfund is, as noted earlier, joint and several; making one responsible party potentially liable for the entire cleanup cost. For example, a transporter of a hazardous waste who was responsible for only five percent of the substances found at a Superfund waste site could be liable for the entire remediation costs if the other PRPs cannot be found. While some courts have allocated liability damages fairly, this liability may extend to a non-polluting third-party.
Third-parties can be held liable for costs of waste disposal, even if they were not involved originally in the hazardous waste discharge. It is worth repeating that a new owner or operator generally has little protection as a result of warranties or indemnities received from a seller, and liability has recently even been extended to lenders of parties subject to the environmental laws and regulations.
Accountants can help their employers and clients estimate cleanup costs and determine contingent environmental liabilities that entail major income and measurement issues.
Measurement of the Environmental Costs. The following problems affect valuating these costs:
* Multiple contaminants, a wide range of technologies for cleanup and incomplete information when estimates are being made.
* Unreliable early estimates.
* Definition of acceptable cleanup. The EPA has broad discretion in determining what constitutes an acceptable cleanup.
* Decentralized EPA programs. Since the Superfund remedial action is decentralized, a remedy may be evaluated differently from region to region, or different remedies with different costs may be employed for similar circumstances.
These four factors create an atmosphere of relativity where accountants and their principals would be much more comfortable with certainty. There is, at present, no solution to these difficulties beyond anticipating them.
Scott  argues that entities that want to avoid future problems will constantly monitor the applications of their environmental policies and procedures. They will specifically lower potential risk by assigning responsibility for environmental matters to specific individuals; instituting a system to promptly identify non-compliance situations and initiate corrective action; establishing and communicating environmental policies and procedures across the company; and developing audit programs to assess environmental performance.
SOP Accounting Requirements
Entities should accrue environmental contingencies when available information indicates that an entity incurred such a liability and the amount can be estimated reasonably.
Probability of Loss. Per the provisions of SFAS No. 5, entities should accrue environmental remediation liabilities (e.g., a loss is considered probable) when these two conditions are met:
(1) An assertion has been, or will be, made that the entity is responsible for participating in a remediation process as a result of a past event, and
(2) the outcome of the pending or potential action will "probably" be unfavorable.
Entities should determine what legally constitutes this potential liability relative to a particular environmental law or regulation at a particular contaminated site.
Reasonable Estimation of a Loss. Due to the nature of environmental remediation contingencies, estimating losses is an ongoing process that generally will result in significant revisions in estimates over the remediation project's life. Factors integral to developing estimates of the liability include:
* The extent and types of hazardous substances at a site.
* The range of technologies that can be used for remediation.
* Evolving standards of what constitutes acceptable remediation.
* Other PRP's financial status and their extent of responsibility to remediate the site (or extent and types of hazardous substances they added to the site).
While estimating a liability at the early stages of remediation may be difficult due to various available remediation strategies, their associated costs may be available or reasonably estimable. Thus, while a broad range of estimates may exist, the minimum clean-up cost and resultant recognizable amounts often are significant.
Costs to Include. Appropriate employee compensation and benefit costs include the time of in-house legal counsel and technical employees who help determine the extent of remedial accounts, the type of remedial action to be used, the allocation of costs among PRPs, and actual remediation activities. Accruing costs related to personnel costs and services that the entity performed, represents a significant change from existing GAAP that usually requires expensing such costs as incurred. Other incremental costs include:
-- Fees to outside law firms for work related to the remediation effort; (However, companies need not accrue the costs of defending a liability judgment)
-- Costs related to completing the RI/FS;
-- Fees to outside engineering and consulting firms for site investigations and development of remedial action plans and remedial designs;
-- Costs of contractors performing remedial action plans;
-- Government oversight costs and past costs, which are usually based on costs incurred by the EPA or other governmental authorities dealing with the site;
-- Costs of machinery or equipment dedicated to the remedial actions that have no alternative use;
-- PRP group assessments for costs the group incurred to deal with the site; and
-- Operating and maintenance costs of the remedial action, including post-remediation monitoring costs required by the remedial action plan.
Allocation of Costs. To identify its share of total estimated liability, an entity should determine all PRPs who are involved at the particular site and thus face potential remediation liabilities. Such parties usually belong to one of five PRP categories:
* Participating PRPs acknowledge their potential involvement regarding the site.
* Recalcitrant PRPs deny involvement with respect to a site despite evidence showing their involvement.
* Unproven PRPs have been identified as PRPs, but do not acknowledge involvement since no substantive evidence links them to the site.
* Parties not yet identified as PRPs may have contributed to the contamination of a site, but are not usually identified until additional investigation of the site occurs or as remediation activities occur.
* Unavailable or insolvent PRPs contributed to the contamination, but cannot be located or have no money so that they cannot contribute to the cleanup efforts.
Participating PRPs should generally allocate remediation liabilities using one of four principal factors:
1. Elements of fair share. Allocate the liability among PRPs based on the amount of waste using such bases as hazardous volume, mass, type of waste, toxicity of waste or length of time the site was used.
2. Classification of PRP. Allocate costs depending on such classifications as site owner, site operator, transporter of waste or generator of waste.
3. Limitations on payments. Limit the extent of a party's contribution to the total remediation cost under statute or regulation, such as limitations on the liability of a state or local government--regardless of the contribution to the contamination.
4. Degree of care. Allocate liability based on the degree of care exercised in selecting a site or transporter.
Primary sources to help estimate such allocations for the remediation effort include agreements reached with PRPs, consultant reports and EPA determinations. Entities must objectively and verifiably support estimates that differ from the allocation methods and percentages provided by such sources, and assess other participating PRPs' contributions based on their financial conditions. If it concludes that other PRPs are unable to contribute to the remediation, the entity should include its share of the other PRPs' liability in its own liability.
Impact of Recoveries. Entities should recognize potential recoveries from insurers, non-participating PRPs and governmental or third-party funds only when such realization is deemed probable. Claims subject to litigation create a rebuttable presumption that realization of the claim is not probable. Measuring any recovery may be made similar to the measurement of the related liability, based either on the fair value of amounts expected to be received or at gross amounts if the recovery does not meet the conditions required for discounting.
Other Considerations. To measure its liability, an entity should consider its expected remediation efforts, including estimating such factors as inflation, productivity improvements due to learning from experience with similar sites and remediation plans. Entities may "discount" their liabilities or components if the aggregate amount of the liability and amount and timing of the cash payments are fixed or reliably determinable. However, the cost estimate should be based on a site-specific plan, and the amount and timing of cash payouts should be based on objective and verifiable information.
Since the SOP provides no specific guidance of the appropriate discount rate for non-publicly-held companies, SAB No. 92 contains the most appropriate guidance. SAB No. 92 requires using a rate that will produce an amount at which the environmental liability, theoretically, could be settled in an arms-length transaction with a third-party. Or, if such a rate is not readily determinable, the discount rate used should not exceed the interest rate on "risk-free" monetary assets with maturities comparable to the environmental liability. An example of the effects of discounting, and the conditions which caused it to be appropriate, is the following disclosure provided in the Brown Group, Inc.'s 1995 Annual Report:
The corporation is involved in environmental remediation and ongoing compliance at several sites. The corporation has completed remediation efforts at its closed New York tannery and two associated landfills. As such, in September 1995, state environmental authorities re-classified the status of the site to one that has been properly closed and that requires only continued maintenance and monitoring. This change in status has allowed the corporation to reliably estimate the future liability for monitoring and maintenance, which is required over the next 28 years, based on a specific site plan. Accordingly, in the third quarter of 1995, the estimated liability of $5.3 million related to this site was discounted using a 6.4% rate, resulting in a $2.0 million reduction in the previously recorded liability of $4.7 million. This increase in earnings was included in "Other Expenses (Income)" on the Consolidated Statements of Earnings.
Environmental issues are complex and provide multiple problems for a business enterprise. As regulation and litigation increase, companies need to re-evaluate their policies regarding environmental issues and disclosure. The above framework should help accountants and their clients to evaluate their exposure to environmental concerns.
Alan Reinstein, CPA, DRA, is the George R. Husband Professor of Accounting in the School of Business Administration at Wayne State University in Detroit, MI.
Mohamed Bayou is an associate professor of Accounting at the University of Michigan-Dearborn.
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(2.) Chadick, Bill, Robert w. Rouse and John Surma, "Perspectives on Environmental Accounting," The CPA Journal, January 1993, pp. 18-25.
(3.) Scott, Barb, "A Greener Audit," CA Magazine, May 1995.
(4.) Vinten, Gerald, "The Greening Audit," Internal Auditor, October 1991.
(5.) Rousseyi, Robert S., "Auditing Environmental Liabilities," Auditing, Spring 1992, pp. 47-57.
(6.) Dupree, Chauncey M., and Rebecca K. Jude, "Coping with Environmental and Tort Claims," Management Accounting, March 1995, Pp. 27-31.…