Posted on 10.16.15
When the Indemnity Fails: Insurance as a Back-Stop
Source: http://renewalredevelopment.com, September 2015
By: Barry R. Geisler,Esq., Great American Insurance Group
In these challenging economic times, there are many impediments for those seeking to sell or acquire properties, especially those with potential environmental contamination.
Access to capital and stricter lender underwriting standards are often cited as significant hurdles to buyers.
Increasingly, environmental impairment liability insurance is being required by lenders as a condition of securing financing. For sellers, whether public or private entities, finding buyers for properties with known environmental impacts, or those that may have such impacts, can be equally challenging.
The allocation of liability for pre-existing contamination can be back-stopped with Premises Environmental Liability (PEL) insurance to satisfy lender obligations and to provide powerful protection for the buyer (and its lender) from potential environmental liability, including claims for the costs associated with the investigation, remediation and subsequent monitoring of contaminated properties.
The payment of the applicable premium can be negotiated as part of the applicable purchase and sale agreement and, in turn, can help sellers convince wary buyers that they will not end up paying to clean-up pollution that they did not cause.
The Comprehensive Environmental Response, Compensation and Liability Act (CERCLA), and its subsequent amendments, commonly referred to as the Superfund law, imposes liability upon the current owner of a contaminated facility.
Increasingly, environmental impairment liability insurance is being required by lenders as a condition of securing financing. For sellers, whether public or private entities, finding buyers for properties with known environmental impacts, or those that may have such impacts, can be equally challenging.
The allocation of liability for pre-existing contamination can be back-stopped with Premises Environmental Liability (PEL) insurance to satisfy lender obligations and to provide powerful protection for the buyer (and its lender) from potential environmental liability, including claims for the costs associated with the investigation, remediation and subsequent monitoring of contaminated properties.
The payment of the applicable premium can be negotiated as part of the applicable purchase and sale agreement and, in turn, can help sellers convince wary buyers that they will not end up paying to clean-up pollution that they did not cause.
The Comprehensive Environmental Response, Compensation and Liability Act (CERCLA), and its subsequent amendments, commonly referred to as the Superfund law, imposes liability upon the current owner of a contaminated facility.
CERCLA does not require proof of fault or that that the current owner contributed to the pollution in any way.
Liability automatically attaches where a release of hazardous substances has occurred at a facility that has or will require response costs. Further, CERCLA liability is joint and several. As such, the buyer may be forced to pay for the entire clean-up, even if there are multiple respon-sible parties. While the Superfund law does contain some defenses, if the buyer is not careful, he or she may end up acquiring much more than a piece of property, including substantial CERCLA liability and the potential for third party liability arising from bodily injury and property damage.
A secured creditor, such as a bank or other lending institution, can also have CERCLA liability under certain circumstances. Many states have similar laws and programs that could have equally severe consequences.
While CERCLA does not permit a party to absolve its liability through a contract, parties are free to allocate the costs associated with such liability through carefully drafted agreements. Typically, a buyer such as a developer or a Real Estate Investment Trust (REIT) will require specific provisions in the Purchase and Sale Agreement that identify environmental risks and set forth which party to the trans-action will be responsible for such conditions. Examples of these types of provisions include “as is” clauses, warranties, representations and indemnification provisions.
Liability automatically attaches where a release of hazardous substances has occurred at a facility that has or will require response costs. Further, CERCLA liability is joint and several. As such, the buyer may be forced to pay for the entire clean-up, even if there are multiple respon-sible parties. While the Superfund law does contain some defenses, if the buyer is not careful, he or she may end up acquiring much more than a piece of property, including substantial CERCLA liability and the potential for third party liability arising from bodily injury and property damage.
A secured creditor, such as a bank or other lending institution, can also have CERCLA liability under certain circumstances. Many states have similar laws and programs that could have equally severe consequences.
While CERCLA does not permit a party to absolve its liability through a contract, parties are free to allocate the costs associated with such liability through carefully drafted agreements. Typically, a buyer such as a developer or a Real Estate Investment Trust (REIT) will require specific provisions in the Purchase and Sale Agreement that identify environmental risks and set forth which party to the trans-action will be responsible for such conditions. Examples of these types of provisions include “as is” clauses, warranties, representations and indemnification provisions.
Generally, an indemnification clause will require one party (typically, the seller) to defend and hold harmless another party (typically, the buyer) from any claims arising from specified conditions. The language of such provisions is diverse and may contain various limitations including monetary caps, time constraints and limits on the scope of covered claims, such as not covering third party bodily injury matters.
While the scope and complexity vary greatly, one thing is for sure; they are not infallible. Indemnification clauses rarely take into account possible changes in the regulatory climate or applicable clean-up standards, remain subject to legal challenges and can be limited by common law doctrines and applicable state statues. In addition, the indemnitor may be unable, for a variety of reasons, to honor its commitment when a problem arises. Perhaps most importantly, even the most carefully crafted indemnity provision is only as strong as the financial support behind it.
How can the savvy buyer gain protection from costly legal challenges, the unforeseen deterioration of the seller’s financial condition or from a simple inability or refusal of the seller to honor its commitment?
While the scope and complexity vary greatly, one thing is for sure; they are not infallible. Indemnification clauses rarely take into account possible changes in the regulatory climate or applicable clean-up standards, remain subject to legal challenges and can be limited by common law doctrines and applicable state statues. In addition, the indemnitor may be unable, for a variety of reasons, to honor its commitment when a problem arises. Perhaps most importantly, even the most carefully crafted indemnity provision is only as strong as the financial support behind it.
How can the savvy buyer gain protection from costly legal challenges, the unforeseen deterioration of the seller’s financial condition or from a simple inability or refusal of the seller to honor its commitment?
How can a seller help convince a buyer that this is the right deal? A few specialized environmental insurance companies offer coverage as a back-stop to the indemnity that will respond when the seller does not abide by its indemnity obligation. An Agreement to Indemnify Endorsement can be utilized to allow the policy’s coverage to be triggered if the indemnitor does not provide the promised indemnity for a claim falling within its contractual obligation.
The effect is that the policy’s coverage will step in place of the indemnity obligation, protecting the buyer, and thereafter allowing the carrier to seek reimbursement from the indemnitor. When structuring a policy in this manner, the insurance company may even be able to offer coverage for known contamination, something that is rarely available in today’s market.
In many cases, similar coverage can be offered to the lender, as well. The developer of the site can rest assured that funding for the clean-up portion of the project will be available, even if the seller/indemnitor cannot, or does not, honor its contractual and financial obligations.
The effect is that the policy’s coverage will step in place of the indemnity obligation, protecting the buyer, and thereafter allowing the carrier to seek reimbursement from the indemnitor. When structuring a policy in this manner, the insurance company may even be able to offer coverage for known contamination, something that is rarely available in today’s market.
In many cases, similar coverage can be offered to the lender, as well. The developer of the site can rest assured that funding for the clean-up portion of the project will be available, even if the seller/indemnitor cannot, or does not, honor its contractual and financial obligations.
