Environmental Cleanup: Who Pays the Price?

By Berman, Mark N. | Business Credit, October 1992 | Go to article overview

Environmental Cleanup: Who Pays the Price?


Berman, Mark N., Business Credit


While everyone agrees the cleanup of toxic waste is a national priority, no one agrees on who must pay for such an endeavor. Banks are concerned about the costs of a toxic cleanup or fines affecting a borrower's ability to repay a loan. Worse yet for the banks, court decisions have held a lender liable to pay for the cleanup if the lender acquires contaminated property through foreclosure, controls the borrower's business during a workout or liquidation, or has the ability to control the borrower's decisions about the disposal of hazardous waste.

Lenders have tried to reduce their chances of nonpayment or liability by increasing their efforts to identify risks before closing the loan, by more adequately monitoring a borrower's business during the life of the loan, and by legislative efforts to change the law. Unsecured trade creditors would do well to learn from the lender's experience and consider, in appropriate circumstances, adopting some of their approaches.

The most commonly encountered federal statute affecting the creditworthiness of a purchaser is the Comprehensive Environmental Response, Compensation, and Liability Act of 1980 (CERCLA), which provides the federal government with the right to order the cleanup of polluted property or to clean the property itself. When the government incurs cleanup costs, it may recover them from the responsible parties and is given a lien on the property to secure repayment. The lien is junior to existing mortgages and security interests.

The other federal statute of particular import is RCRA, which is short for Resource Conservation and Recovery Act. Here the focus is on the creation of toxic waste. Criminal penalties are imposed on anyone who violates RCRA's restrictions on treatment, storage, and disposal.

State Regulations May Vary

State statutes come in a wide variety and present a special problem for the credit manager. A purchaser may have multiple business locations, each impacted by a different state regulatory scheme. With each state having its own version of the Environmental Protection Agency (EPA), some have followed the lead of the federal statutes and provide for hens on the contaminated property junior to existing hens to secure the repayment of costs incurred in the cleanup process.

Other states provide for a super hen which will be senior in right to liens existing on the property. The existence of the lien can be an obstacle to the owner of the property obtaining the financing necessary to undertake an expensive cleanup.

Another state approach requires a site assessment any time a property owner proposes to transfer title to a piece of commercial property. If hazardous waste is found on the site, a cleanup plan must be prepared and then implemented before the property can be transferred.

Lenders Must Be Leary

Lenders must be concerned that this collateral may be contaminated. They must also make sure they are not considered an "owner or operator" and therefore liable for the full costs of the cleanup without regard to the value of the collateral. A case called "Fleet Factors" held a lender could be liable as an owner because the lender had the capacity to control the debtor's decisions about the disposal of hazardous waste. The capacity to control grew out of provisions in the loan documentation. While the case has not been universally followed, lenders are comforted by new EPA rules announced on April 24, 1992, which eliminate the lender's exposure where its interest in the property is solely the result of the lending relationship and efforts to realize on collateral.

Essentially, if the lender does not participate in management prior to foreclosure, and follows the EPA's rules after foreclosure, it will be protected. While the EPA rules address issues on the federal level, lenders will have to wait for similar action by each state.

Lenders are best served by avoiding the problem at the inception of the loan. …

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Environmental Cleanup: Who Pays the Price?
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