Pollution Liability Insurance: A Key Tool for Closing Commercial Real Estate Transactions

Most commercial general liability (CGL) insurance policies exclude coverage for pollution-related liability. This has been the case for nearly 40 years, since the insurance industry took steps to protect itself in the wake of the enactment of the Comprehensive Environmental Response, Compensation, and Liability Act (CERCLA). But, for prospective buyers who want to protect themselves, there are still options available. Learn more from the California contamination lawyers at Bick Law LLP.

Managing the Unknown: Using Pollution Liability Insurance for Environmental Risk Management

When buying commercial and industrial properties, companies can (and generally should) take several steps to manage the potential risks involved. One way prospective buyers can protect themselves is by taking the necessary steps to qualify as a bona fide prospective purchaser (BFPP). This designation may limit the buyer’s cleanup liability, even if it knows the property is contaminated at the time of purchase.

To qualify as a BFPP, a party  must: 

(1) acquire property after January 11, 2002, 

(2) avoid impeding the performance of a response action or natural resource restoration, and 

(3) meet both threshold criteria and ongoing obligations, including:

•  Performing all appropriate inquiries prior to purchase
•  Having no affiliation with any PRP 
• Avoiding any disposal of hazardous substances after acquisition
• Complying with all applicable land use restrictions and institutional controls
• Taking reasonable steps to manage releases
• Providing full cooperation, access, and compliance with information requests
• Providing legally required notices
• Avoiding activities that would make them a liable party under CERCLA, such as contributing to contamination after acquisition
• Taking due care and precautions to prevent third parties from impacting the property

There is an important distinction between an innocent landowner and a BFPP. An innocent landowner must conduct all appropriate inquiry and have no knowledge or reason to know that contamination exists on the property. In contrast, a BFPP may purchase property with knowledge of the contamination and still be eligible for the liability protection. 

However, the protection afforded by BFPP status has its limits. 

For example, even BFPPs are only protected from past contamination; they can still face liability related to future contamination. This includes, but is not limited to, future contamination from offsite sources. As a result, while securing BFPP status (or establishing another defense to CERCLA liability) is important, it is not necessarily sufficient on its own to protect a prospective buyer from all environmental liability risk.

This is where pollution liability insurance comes into play.

While CGL insurance policies no longer provide coverage for pollution-related liability, prospective buyers can separately obtain pollution liability insurance. As its name suggests, pollution liability insurance helps fill the gap created by the “absolute pollution exclusion” under today’s standard CGL policies.

Pollution liability insurance is often used as a tool to facilitate the closing of commercial real estate transactions, especially when prospective buyers cannot control for all potential pollution-related liability risks, despite conducting reasonable due diligence. For example, even if a prospective buyer qualifies as a BFPP, concerns may remain about offsite contamination from nearby industrial facilities, emerging contaminants, or other unknown conditions. In such cases, pollution liability insurance may be what helps move the deal to closing. 

That said, prospective buyers need to ensure their pollution liability insurance policies address their specific concerns—and that policy exclusions do not eliminate coverage for the specific risks they are seeking to address. Importantly, insurance companies typically demand extensive subsurface testing to fully understand the risk of future liability. However, in some cases, either the buyer or seller) may be unwilling to conduct such extensive sampling. In those situations, limited insurance coverage may still be an option, with certain carve outs for contaminants or areas that could not be fully investigated.

5 Key Considerations When Using Pollution Liability Insurance for Environmental Risk Management

With this in mind, if your company is pursuing a commercial or industrial real estate acquisition that presents potential environmental risks, what do you need to know about procuring pollution liability insurance? Here are five key considerations:

#1: Will Pollution Liability Insurance Provide the Protection Your Company Needs?

The first step is to assess whether pollution liability insurance will provide the protection your company needs. For example, a buyer may be concerned about the risk that contamination from an offsite source may migrate onto the property. An insurance policy may cover that, depending on what information is available about adjacent properties and known regional plumes. A seller may be concerned about a buyer’s future operations at the site, causing a release of hazardous substances that could become the seller’s liability due to CERCLA’s joint and several liability scheme. 

An insurance policy may cover future contamination, depending on the insurance companies’ confidence in the buyer’s compliance in operations. In some cases, both the buyer and the seller need to protect themselves from unknown future liability. For example, a property containing an RCRA-permitted facility may require an EPA-approved closure of that facility in the future, which may reveal contamination. Whether an insurance policy would cover that depends on the extent of information available about the past operations and future risks related to the facility. 

In many of these cases, the uncertainty of what lies beneath the subsurface cannot be easily quantified, and the parties cannot reach agreement on managing the risks of those uncertainties without third party insurance. If the risks that are standing in the way of closing your company’s proposed acquisition can be addressed by procuring pollution liability insurance, then this could be a cost-effective solution. If they cannot, then you will need to consider other options, such as putting funds in an escrow account.

#2: What Are the Specific Risks Your Company’s Pollution Liability Insurance Policy Should Address?

If the environmental risks that your company needs to address generally fall within the scope of pollution liability insurance, then the next step is to outline these risks with specificity so that you can begin shopping for coverage. In this scenario, by clearly defining the parameters of the coverage your company needs, you can ensure that the coverage your company procures will serve its intended risk management function.

#3: What Are the Terms of the Policy (Including Coverage Exclusions)?

As is the case with all commercial contracts, pollution liability insurance policies require careful review and strategic negotiation. This means engaging legal counsel to examine the terms of the policy (including any coverage exclusions) to ensure that the policy meets your company’s needs. If any of the key terms of the policy are unclear, inconsistent, or leave critical questions unanswered, these are issues that will need to be addressed before moving forward.  In particular, most insurance policies state the coverage and then separately set forth the exclusions. Some exclusions may materially change the coverage and should be carefully reviewed. The number of years of a term is also important, but most insurance companies will agree to consider a renewal. Because environmental liability can have a very long tail, it is possible that environmental claims may not arise until long after the policy expires. This makes it essential to carefully weigh the long-term risks when evaluating the cost-benefit of purchasing pollution liability insurance.

#4: What Other Steps Should Your Company Take to Mitigate Its Environmental Risk?

As discussed above, procuring pollution liability insurance is one step companies can take to mitigate environmental risk when acquiring commercial and industrial properties, but it should not be the only step. If your company has not already commissioned a Phase I Environmental Site Assessment (ESA), it should do so before purchasing property.

#5. Is Procuring Pollution Liability Insurance the Last Step for Closing the Acquisition?

Ultimately, because pollution liability insurance only covers certain types of environmental risks, procuring this insurance should generally be among the last steps that companies take before closing on commercial and industrial real estate acquisitions. If a pollution legal liability (PLL) insurance policy is the final piece your company needs to feel comfortable moving forward, then it may be time to contact your company’s insurer. 

That said, if you’re still early in the environmental due diligence process and anticipate that PLL insurance may help close the deal, it is wise to talk with a broker early about the type of information you would need to provide to a carrier of PLL policies. Understanding what information a carrier will require, such as subsurface data, can help you structure your Phase II ESA accordingly. Designing the scope of your Phase II around the insurer’s needs can improve your chances of securing comprehensive coverage. If you choose not to conduct a Phase II, or if the investigation is limited, you can still obtain a PLL policy, but it will likely include exclusions for any unknowns.

Learn More from a California Contamination Lawyer at Bick Law LLP

Our firm provides comprehensive environmental legal representation before, during, and after commercial and industrial real estate transactions. If you would like to speak with a California contamination lawyer at Bick Law LLP, we invite you to get in touch. Call us at 949-432-3500 to schedule a consultation today.