A better safety net for those walking the real estate tightrope

As coverage expands and pricing becomes more affordable, the use of insurance as a solution to mitigate environmental liabilities is gaining popularity. Increased flexibility in the underwriting philosophies of insurance carriers, combined with added competition of new companies in the environmental arena, has facilitated the reduction of environmental liability roadblocks. This can aid in cutting risks associated with ownership and management, as well as transfer and development, of potentially contaminated real estate.

Environmental insurance's beginnings
The development of environmental insurance products was brought about by fundamental changes in the intent of what is and what is not to be covered under the traditional general liability insurance policy. Beginning around 1973, mounting social pressures concerning the environment caused state and federal government agencies to become more aggressive in identifying both contaminated properties and financially responsible parties to pay for cleanups.

Resulting insurance claims for remediation costs, third party lawsuits and associated legal defense costs were astronomical, and insurance carriers began including on policies what is known as a "sudden and accidental" pollution exclusion, to limit their financial exposure. This policy language was developed in an attempt to exclude coverage for gradual contamination conditions at sites with a long history of operations, while still providing the added value of coverage for the true "accident."

While an improvement over prior insurance language, this approach was not a solution. Courts in different jurisdictions had varying interpretations of the afforded coverage, and insurance companies were still heavily involved in litigation and cleanups. When more restrictive environmental regulations were developed in the 1980s, frequency of pollution claims and owner/operator liability for environmental conditions increased. Insurance companies then attempted to distance themselves even further from the peril.

Through the evolution of exclusionary language with more consistent judicial interpretation, an absolute pollution exclusion was ultimately developed that does not distinguish between "sudden and accidental" and "gradual" pollution incidents. Instead, it excludes all loss due to a pollution release, regardless of time. While there exists a 30-year, ongoing battle over the interpretation of various pollution exclusions, insurance companies have endeavored to more clearly define their intent to exclude pollution coverage in most insurance policies. This situation opened the door for today's specialty environmental insurance market.

Today, an array of insurance products can be purchased to address environmental liability exposures. Products providing errors and omission coverage for contractors and consultants who specialize in the environmental industry are reasonably priced, and eliminate gaps in coverage created by a pollution exclusion. Policies have also been developed for fixed facilities, real estate transactions, asbestos/lead abatement, underground storage tanks, closure and post-closure financial assurance compliance, and even to limit the financial risk of cost overruns on remediation projects.

While much has been written about all of these products, this article will focus on two types of coverage: environmental impairment liability (EIL) for specific facilities, and real estate environmental liability (REEL), used to facilitate the purchase or financing of real estate with actual or potential environmental conditions.

Environmental impairment liability insurance
Environmental impairment liability (EIL) insurance is not new to the property and casualty insurance market. What is new is the cost-effectiveness of using the policies and the customization available for specific sites. In its basic off-the-shelf form, EIL covers third party losses due to sudden and gradual pollution conditions emanating from a covered facility. Included is coverage for third party bodily injury, property damage, cleanup costs and resulting defense costs.

For example, a current owner of a chemical manufacturing facility discovers that a plume of contamination has gradually developed in the groundwater below his facility due to prior facility operations. The plume follows the gradient and migrates onto a neighbor's property, thereby contaminating an on-site domestic well. A claim results and triggers the EIL policy for the costs of legal defense, cleanup and providing a replacement water supply.

More common today are enhanced policies that can be purchased to cover liability and resulting financial costs associated with on-site remediation, bodily injury and property damage; non-owned disposal sites; natural resource damages; punitive damages; and transportation of wastes excess of a transporter's insurance program. Most insurance companies will work with customers to find the policy that best addresses their particular exposure.

The types of facilities considered suitable for coverage are vast and include chemical manufacturers; bulk storage terminals; electronics manufacturers; ship yards; waste treatment, storage and disposal facilities; utilities; hospitals; universities; and metal processing plants. Insureds are not only afforded environmental and financial risk management protection by these policies, but also find additional value in loss control services provided by the insurance company. While operational aspects are addressed by EIL insurance, coverage also exists to support the purchase or financing of real estate.

Real estate environmental liability insurance
Environmental insurance products have evolved rapidly in response to the changing needs and expectations of the real estate customer. This process is most evident in the continued development of real estate environmental liability (REEL) insurance products. The new trend toward redevelopment of contaminated sites known as brownfields raises concerns about the environmental liabilities that historically have prevented such projects from moving forward. Under current federal and state laws, property owners can be ordered to clean up a contaminated site even if they did not cause the contamination and had no knowledge of it at the time of the property's purchase. Uncertainty of site conditions, as well as unlimited liability arising from the strict, joint and several liability scheme under the Comprehensive Environmental Response, Compensation and Liability Act, also known as Superfund, can be troubling to prospective purchasers and has halted property transactions, as well as mergers and acquisitions.

Although the potential for contamination is an obvious concern at known waste sites and heavily industrialized properties, pollutants may also be found in the soil, surface waters and groundwater at real property used for light industrial, office and retail purposes and even in undeveloped land. Before acquiring real estate, prospective buyers traditionally conduct a Phase I environmental site assessment as part of the due diligence process. This determines if potential environmental concerns exist, and provides a professional opinion as to the impact of any identified environmental concerns at the site. In spite of a property having been evaluated as free from environmental hazards based on due diligence efforts, impacts not readily identified often later become apparent, and known conditions are sometimes exacerbated during development activities.

REEL insurance products can be used either in conjunction with or as a replacement for contractual indemnity language, in which parties to a contract agree that one party will be exempted from losses or damages, and that the other party will be responsible for covering such losses. This type of policy is finding practical application in real estate transactions. A REEL policy can provide coverage for first party on-site cleanup costs and third party claims for cleanup, bodily injury, property damage, natural resource damage and diminution in property value due to pollutants emanating from the property. Both coverages can cover claims caused by contamination that was preexisting, but unknown at the time the property was purchased or the policy issued, and new contamination that occurs after the inception date of the policy. Additionally, policyholders may be able to purchase coverage for first party loss caused by business interruption or loss of rental value. Duration of policies often parallels loans on t he property, and is commonly written for five- to 10-year terms.

The REEL policy can help ensure that property owners and other property interest holders will be able to recover pollution damages quickly if contamination is discovered at the site. In contrast, property owners without coverage are left to recover damages from the consultant who may have negligently performed the due diligence. The consultant and its own insurer would likely contest the property owner's claim of negligence, leading to a costly and time-consuming legal battle that might eventually be lost.

Addressing uncertainties
Utilizing environmental insurance affords significant protection to owners and operators, lenders, investors and other interested parties in sites with potential environmental impacts. While pre-existing known conditions are generally not insurable until a cleanup is completed, addressing uncertainties can significantly reduce exposure associated with unknown conditions that result in cleanup costs, third party liabilities, toxic torts, natural resources damage and a variety of other risks.

In recent years, coverage has become quite affordable, reflecting the industry's increased understanding of the nature and cost of environmental liability. While complex scenarios may require the integration of more than one insurance product, the flexibility found in today's insurance underwriting community can help design a program to fit your needs.

This article originally appeared in the 06/01/1999 issue of Environmental Protection.

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