Imagine purchasing a new office for your business and then getting stuck with a bill upwards of $1 million as the result of someone else’s negligence. It can happen if you aren’t aware of potential environmental contamination.
“The first thing you want to realize is that in the majority of real estate transactions, there is some sort of environmental exposure that needs to be addressed,” says Phil Coyne, vice president with ECBM Insurance Brokers and Consultants.
“Whether you are selling the property, purchasing the property or you’re going to be financing the property, there is going to be some potential environmental exposure that may need to be addressed.”
Smart Business spoke with Coyne about how environmental insurance can help to alleviate the risk.
Why should buyers consider purchasing environmental insurance?
Environmental issues can have a long tail. It can be a situation where you’re buying a piece of property, and during your due diligence, there are no issues found, but then you go to develop it and you find out there is contaminated soil that wasn’t disclosed or known at the time you purchased the property. This type of situation that leads to cleanup requirements costs and/or a potential third-party claim due to the contamination is why you would buy the environmental insurance.
What costs can environmental insurance cover?
There are typically three costs covered. The first is the actual cleanup costs of the contamination. The second cost is any potential third-party claims for property damage or bodily injury; this can be both off-site or on-site. The third is defense costs from a third party that says, ‘This contamination came from your site. It’s contaminated my site; I now have property damage or bodily injury,’ and files a claim against you.
These three costs can actually occur on the same incident: In the process of doing the development work for a project, contaminated soil is discovered, which requires you to notify the EPA or local authority. You are then required to clean up the contaminated soil, and during the investigation, it is determined the contamination has migrated from your site onto the adjoining property, and the owner of that property files a claim against you for damages. Even if you didn’t cause the contamination, if you are the owner of the property at this particular point, you could be held responsible for the cleanup and other damages.
Do you need environmental coverage in order to get financing for your purchase?
Most if not all loan documents have a reference to or a section in regards to environmental issues and requirements. These loan documents and agreements typically do not allow this exposure to be transferable, which is when most buyers of environmental insurance decide to purchase the coverage. Most banks or lenders during their due diligence for financing of a property will require or order a Phase I report to determine the potential environmental exposure to the borrower and the lender.
How does the process of obtaining insurance work?
The process first starts when an owner, purchaser or seller realizes the need for environmental insurance. Then there is an application submitted along with any environmental reports available. Typically, the first report is a Phase I, which gives the history and background of the property or parcel that is being sold, purchased or financed. It gives an overview of what the property is, what it was and if there are any potential environmental issues at that location. If, based upon the Phase I report, it is determined there are no real concerns, you typically can obtain a quote from the application and Phase I report. But if, based upon the Phase I, they find there may be additional reports needed, that’s when they go to the Phase II, which involves actual drilling and core sample testing of the property; at this time the process of obtaining a quote or coverage becomes slightly more complex depending on the Phase II report.
How much environmental insurance should you consider purchasing?
You need to review the value of your assets or asset, or the limit may be set by a lender. If you have a location with very low risk, many times you’ll run into a minimum premium, meaning that regardless of the risk or the amount of coverage you wish to purchase there is a minimum premium the insurance company needs to collect, such as $10,000 to $15,000 for a one-year policy or $25,000 for a multiyear policy. In order to purchase the best coverage for the best price, try to purchase the highest limits you can and/or obtain a multiyear policy from three to five years. If you have more than one location, you would want to insure all your locations to get the most from your premium. Also under consideration is the size of the deductible. Many policies have a minimum deductible of $10,000. If you feel comfortable with a higher deductible of say $25,000 or more, you may be able to purchase more coverage at the same premium or obtain a premium savings.
PHIL COYNE is vice president with ECBM. Reach him at (610) 668-7100 or firstname.lastname@example.org.