New Standards for Phase I Environmental Site Assessments: Impact on Owner & Lender Liability

Phase I Environmental Site Assessments (“Phase I”) are a commonly utilized assessment tool for environmental due diligence in most commercial real estate transactions in the United States.  These site assessments and environmental reports provide purchasers and lenders with a summary of environmental concerns for the subject property and abutting properties, specifically as to the existence and presence of hazardous substances, potential contamination of soil and groundwater, and the presence of underground storage tanks which could cause environmental problems and liability. Specifically, Phase I’s involve a review of public records, interviews with those knowledgeable about the subject site, site visit(s), and a non-invasive survey.

Phase I reports were established in 1993 by the American Society for Testing and Material (“ASTM”). Approximately every eight (8) years, ASTM re-evaluates the standards for Phase I’s and revises the standards accordingly.

Changes to Phase 1 Standards

In November 2021, the ASTM’s environmental assessment, risk management, and corrective action committee made a series of changes to Phase I standards. On March 14, 2022, the U.S. Environmental Protection Agency (“EPA”) issued a final rule incorporating these revised standards.  The rule is expected to go into effect on May 13, 2022.

Significantly, Phase I’s facilitate property transfers in compliance with the EPA’s All Appropriate Inquiries (“AAI”) Rule as promulgated under the Comprehensive Environmental Response, Compensation and Liability Act of 1980 (“CERCLA”). CERCLA provides a remedy for the government and private parties to recover clean-up costs from (i) current owners and operators of a facility with contamination; (ii) former owners and operators of a facility at the time that hazardous substances were disposed of at the property; (iii) parties that arranged for the disposal or treatment of hazardous substances to a contaminated facility; and (iv) parties that accepted hazardous substances for transport to disposal or treatment facilities from which there is a release of hazardous substances.

If a Phase I identifies an issue, then a Phase II will be performed to conduct further sampling and confirm a suspected environmental contamination and, where appropriate, establish a remediation plan to be undertaken. The standards set by ASTM and the EPA are crucial for buyers and lenders as compliance with these standards will provide buyers and lenders some protection from clean-up costs to the extent ordered by local, state, or federal agencies and potential liability in private litigation.

Current (2013) Phase I Standard

The previous standard, E1527-13, was released in 2013 and subsequently adopted by the EPA.  The 2013 standard requires the following: (i) a site visit to observe current and past conditions; (ii) a review of federal, state, tribal and local regulatory databases, including but not limited to, underground storage tanks; (iii) a review of state and local agency records, including but not limited to state environmental agencies, building departments and fire departments; (iv) interviews with current and past property owners, operators and occupants; (v) interviews with the Report User for title or judicial records for environmental liens and activity and use limitations (“AULs”)

What are the 2022 Changes to the Standard?

There have been multiple significant changes to the new standard. Some of the more notable changes include:

• Addition of per-and polyfluoroalkyl substances (“PFAS”), an emerging contaminant that the EPA is concerned about. PFAS are a group of manufactured chemicals that have been used in industry and consumer products since about the 1940s. There are thousands of different kinds of PFAS. These contaminants can be found in both soil and in groundwater which can create contamination of surrounding properties.
• Revised definitions and guidance while classifying an environmental risk (e.g., definitions of “Recognized Environmental Condition”; “Controlled Recognized Environmental Condition”; and “Historical Recognized Environmental Condition”).
• Addition of new definitions for “Property Use Limitation” (“PUL”) and “Significant Data Gap”.
• Update and clarification of what is to be included in the historical records review section of the report, which is the largest change to the Standard.
• Addition of detailed site reconnaissance requirements (i.e., what has to happen when the environmental expert conducts a site visit).
• More extensive title searches.
• Revisions to the report requirements, such as site plans and color photographs.

Additionally, the new standard provides for a new shelf-life for the report. In particular, Phase I’s will be valid for 180 days if the transaction is for a purchase or acquisition. If the transaction contemplated does not include an acquisition, such as a refinance or a lease, then the Phase I will have a shelf life of one (1) year, so long as five key components have been updated. These components include (i) interviews; (ii) searches for recorded environmental clean-up liens; (iii) review of government records; (iv) site reconnaissance of the subject property and adjoining properties; and, (v) the Environmental Professional (“EP”) Declaration.

What The New Standards Mean to Buyers, Owners, and Lenders

The goal of these revisions by the ASTM and EPA is to create a more consistent Phase I report.  However, the main and immediate consequence of the implementation of these new report standards may result in an increased cost of preparing Phase I reports, which are expected to be passed on to borrowers, lenders, and real estate owners. Specifically, environmental experts who conduct site visits, assemble the information, and research a subject property will have to become more knowledgeable about the new standards, conduct additional work and create more comprehensive environmental reports. In addition, because the scope of the work is going to increase, it will likely take longer for environmental professionals to prepare and complete Phase I reports. In an already busy commercial real estate market, this may impact those who are trying to buy or sell a property quickly to benefit from higher purchase prices and increased demand.

Furthermore, the longer-term impact of these new standards, including specifically the addition of PFAS information, may impact liability/defenses of real estate owners and lenders under federal law. While PFAS are currently not considered a “Recognized Environmental Condition” (i.e., a current hazardous contaminant), the EPA is slated to issue a final rule designating PFAS as a hazardous substance by the summer of 2023 (which could signify expanded clean-up liability). In the meantime, real estate owners, buyers, and lenders should make sure any environmental testing includes testing for PFAS; as failure to include such testing may inhibit the real estate owner, buyer, and/or lender from securing future liability protection under federal law. Under federal law, prospective real estate owners and lenders do qualify for liability protection if the reports comply with the minimum standards set by ASTM and EPA. As such, prospective real estate owners and lenders may open themselves up to significant fines, penalties, and remediation costs should their Phase I reports not meet the new standards.

Based on these revisions, it is anticipated that lenders, private equity companies, investors, insurers, and other parties with a financial interest in the real estate will require the Phase I to meet the new standards, even before the EPA phases out existing standards. So, while the short-term consequences of obtaining Phase I Environmental Site Assessment reports that meet the new standards would mean more expensive reports and potentially longer timelines to obtain such reports, the consequences of not obtaining reports under the new standards could result in material liability and less protection under federal law.

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