Minimizing Environmental Liability in Real Estate Transactions

April 14, 2015

Under federal and state environmental laws, an owner of real property can be held “strictly” liable (liability without proof of fault or causation) for the entire cost of remediating soil, groundwater, or indoor air contamination. Further, a tenant whose operations are linked to contamination on real property can be held liable as an “operator” for such cleanup costs.  Relatively simple cleanups can easily run in excess of hundreds of thousands of dollars, with more complicated cleanups running into millions of dollars.

Given the magnitude of these potential liabilities, parties to real estate transactions should be aware of basic tools and principles to avoid or minimize environmental liability, as well as common pitfalls.  This article provides an overview of contractual allocation of environmental liability, use of “as-is” clauses in sale and lease contracts, the purpose and legal effects of indemnities and releases, and potential remaining claims by government agencies.

Parties can contractually allocate environmental liability

While federal and state environmental laws impose strict liability on current owners or operators, environmental liability is not inevitable.  It is well established under federal and state law that parties to real estate transactions can contractually allocate environmental liability between themselves for current and future property conditions, whether the contamination is known or unknown.  See, e.g., 42 U.S.C. § 9607(c)(1); Car Wash v. Kampanos, 74 Wn. App. 537, 874 P.2d 868 (1994).  As between contracting parties, courts construe and enforce agreements to reallocate environmental liability according to general rules of contract interpretation, generally under state law. 

A buyer of real property becomes strictly liable for any contamination on the property that pre-dated the sale, even if it was caused by the seller.  Nonetheless, even with no express agreement about environmental liability between the seller and the buyer, the buyer can seek contribution from the seller under state or federal environmental laws to reimburse at least some of the costs of remediating the contamination.  However, allocations of environmental liability in such cost-recovery lawsuits are uncertain and unpredictable, inasmuch as courts have discretion to consider “equitable factors,” such as the amount or toxicity of hazardous substances attributable to the seller, the extent of seller’s cooperation in the cleanup, etc. Parties to a real estate transaction can, instead, reallocate liability in a manner that provides more certainty and predictability. 

For example, the seller may agree to indemnify the buyer with respect to all liability arising from the presence of contamination that existed on the property prior to the sale.  In that case, the buyer is still strictly liable for the historical contamination under state and federal environmental laws, but could require the seller to assume defense of any claims by governmental agencies or private parties relating to the contamination and to reimburse the buyer for any costs incurred as a result of such claims.  Alternatively, the buyer could agree to release the seller for any liability relating to pre-closing contamination.  In that case, the strictly-liable buyer could not bring a contribution claim against the seller under environmental laws and might end up shouldering all of the liability for the contamination (though governmental agencies or other private parties could bring claims against the seller). 

Defining and allocating liability for pre-closing and post-closing contamination is a reasonable approach to allocating risk, but parties to such agreements should be aware that proving how or when contamination occurred is often difficult.  Parties can attempt to define and allocate liability for known environmental conditions based on available environmental reports, which should be specifically identified prior to closing.  It can be much more challenging to allocate liability for unknown environmental conditions that may be discovered in the future.  In some cases, parties might agree to share cleanup costs for any contamination that is discovered after closing, with specified time or cost limits on the cost-sharing obligations.

“As-Is” clauses in sale or lease agreements do not reallocate environmental liability

Federal and state courts consistently hold that selling or leasing real property with an “as-is” clause in the lease or purchase agreement does not have the legal effect of transferring environmental liability to buyers or tenants.  Instead, an “as-is” clause only bars a breach of warranty or misrepresentation claim regarding the environmental condition of real property. An “as-is” clause without express environmental release language does not act as a release of claims under environmental laws, so the buyer or tenant can still bring claims against the seller or landlord under those laws.

Indemnities and releases are effective to allocate environmental liability, if properly drafted

Successfully allocating environmental liability in a real estate transaction is not a “one size fits all” proposition.  Each real estate deal involves unique facts.  Buyer/seller or landlord/tenant interests and objectives are different in every case.  A basic checklist for drafting environmental liability terms in a purchase and sale agreement or lease should ask several questions. An example can be accessed here.

Indemnities and releases have separate and distinct purposes and legal effects

A 2011 Washington case highlights the importance of distinguishing between environmental indemnities and releases of environmental liability.  In Hulbert v. Port of Everett, 159 Wn. App. 389,245 P.3d 779 (2011), the court considered the effect of the seller’s agreement to indemnify the buyer of real property against environmental liability.  The indemnity expired three years after the sale of the property.  The court held that the expiration of the indemnity did not bar the buyer from filing a statutory cost-recovery claim for contamination found after the indemnity expired.   Although the buyer no longer had a contractual indemnity claim against the seller, it had not released any of its potential statutory claims as part of the agreement. Therefore, the buyer’s statutory right to claim cost recovery remained intact, despite the expiration of the indemnity agreement.  An indemnity is not a release, and a release is not an indemnity. Agreements to allocate environmental liability must clearly show a mutual intent to grant specific indemnity rights or to release a party with respect to specific environmental claims.  Poor drafting and the use of ambiguous terms can result in harsh and unintended consequences, including unexpected liability for an expensive cleanup that may occur many years after a real estate transaction has closed.

Contractual allocations of environmental liability do not limit the authority of governmental agencies

A common misconception is that a contractual allocation of environmental liability in a real estate transaction will control all future obligations of the parties with respect to environmental conditions at the property.  In fact, private parties cannot contractually limit the government’s authority to enforce cleanup obligations under environmental laws.  For example, a buyer of real property cannot avoid complying with an agency order to clean up contaminated property, even though the buyer may ultimately have the right to recover some or all of its costs from the seller or another party.  However, a court might consider contractual agreements between the parties to allocate liability as an “equitable factor” in allocating environmental liability between potentially responsible parties in a cost-recovery or contribution action under state or federal law.

Conclusion 

State and federal environmental laws may impose substantial liability on past and current owners and operators of contaminated property. While parties to real estate transactions cannot contractually limit their liability to governmental agencies, they can reallocate some risks to other private parties by using indemnities, releases, and other contractual commitments.  In order to reallocate such risks effectively, the parties should develop a thorough understanding of the nature of the property and any known contamination, the resources of the other party, and the legal effectiveness of the various contractual tools available for mitigating risk.  For more information on any of the topics covered in this article, please contact Partners Keith Moxon at kem@vnf.com, Dale Johnson at dnj@vnf.com, or Seth Gustafson at spg@vnf.com

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