Why Banks require a Phase I

Why do banks force borrowers to get a Phase I ESA? Although the bank may be thinking about the borrower’s potential liability under CERLCA, it’s really all about risk to the lender.

Although banks have been given a way out of CERCLA liability, they are not immune to the potential downfalls of an environmentally impaired site. True, if they follow through with the CERCLA requirements, the lender won’t be held liable for the actual clean up of the site, but once the site has entered the realm of regulatory oversight, there is little that can be done with the site until clean up has met human and ecological health risk criteria.

A lender is concerned about the very real potential that a defaulting borrower may skip town, leaving a contaminated site behind. These sites are financial drains. Though there are ways to dealing with this issue, many lenders want to avoid the possibility. One way to potentially avoid this – a Phase I ESA.

The Phase I will give the lender a historical view of the Property, and if done correctly will provide an analysis of the potential for historical and current uses of the Property (with a special focus on hazardous materials and wastes) to adversely impact the environmental quality of the Property. The lender can use such a report to determine their potential risk of taking the site back (i.e. just how likely is it that Company X is going to skip town leaving me with their site?) and combine that information with the potential that the use of the site may impact the environment (i.e. just how likely is it that Company X and the three prior occupants used hazardous materials?).

A real situation occurred recently where a lender was loaning on an office building. Without more the lender would have thought all was good to go (thinking that office meant “clean”). However, the Phase I revealed that historically the site was used to operate a dry cleaning facility. The lender chose to further investigate by having Ceres Associates collect soil and groundwater samples. In the end the loan was refused because the site was already contaminated. But for the Phase I, the lender would never have known the potential risk of loaning on the site.

The Phase I provides a critical piece of the lending puzzle, especially when it comes to risk potential associated with individual loans.