Transferring Polluted Properties
Close and trusting relationships among all parties is the single most important factor for the success of a real estate transaction involving an environmentally contaminated — or “brownfield” — property.
In the best of these transactions, the underwriter has good relationships with brokers, underwriters, clients and vendors, said Christopher Alviggi, business development leader, Alliant Insurance Services Inc., a Newport Beach, Calif.-based specialty insurance brokerage firm.
“You want to make sure everybody’s interests are aligned before you close. That will make claims settlement easier, post-close.”
And loop in the regulators, said Randall Jostes, chief executive officer, Environmental Liability Transfer Inc., an environmental liability buyout company. “If they’re included early in the transaction process, they’ll clearly communicate their expectations.”
Different states have different environmental standards and regulations, and different types of properties are subject to different federal regulation. To sort out the regulatory requirements, Jostes said, “we need relationships with federal and state regulators as well as other trusted parties: brokers, carriers, buyers and sellers. They all have their own jurisdictions and expectations.”
The circle of trusting relationships also extends to the consultant that performs the Phase I Environmental Site Assessment — the first step in environmental due diligence that identifies potential or existing environmental contamination liabilities — said David Rieser, head of the Environmental, Regulatory & Redevelopment Law practice.
“Hire a reputable consultant,” he said. “A great deal depends on the quality of the people who do the work.”
A careless assessment could miss things such as underground storage tanks, which are prone to leaks, “weird pipes you can’t understand” and an unexplained patch of fresh cement — any of which should trigger further investigation, Rieser said.
Those problems could kill the deal or change its terms, since liability for problems on a property transfers with ownership.
Phase I Environmental Site Assessments also include reviewing public documents, such as government databases, building permits and historic fire maps. They create a safe harbor against liability from contaminations.
Demand for Phase I assessments boomed after enactment of the Comprehensive Environmental Response, Compensation and Liability Act of 1980 (CERCLA), which holds a buyer, lessor or lender responsible for remediation of hazardous substance residues, even if a prior owner caused the contamination.
Risk Transfer Strategies
The National Brownfield Association estimates that $2 trillion of real estate in the United States is devalued due to the presence of environmental hazards — an enormous opportunity for those who can unlock the properties’ redevelopment potential, said Jostes.
The money to be made is legendary: Think Manhattan’s Meatpacking District, the exorbitant neighborhood of young hipsters and boutique-lined streets whose name is the sole relic of its gritty past.
Every kind of property is game for redevelopment, each with its own possible contaminations and risks, said John Wasilchuk, account executive and environmental specialist, Lockton.
Abandoned residential buildings, for example, may have mold, asbestos or lead that require remediation. They may have housed meth labs, leaving behind chemical waste that may be reactive and toxic to human health and the environment, since meth cooks — unlike the fictional Walter White — tend not to be meticulous housekeepers.
Defunct gas stations may suffer petroleum contaminations in soil and groundwater from leaky underground storage tanks, and old agricultural sites could leave fertilizer, pesticide and herbicide contaminations behind, especially at points where the chemicals were stored, loaded or unloaded.
“Even if the indemnifier’s parent company is highly rated by Moody’s or A.M. Best, do we have the financial backing of the parent, or is it limited to the assets of the limited liability company?” — Matt O’Malley, president, North America environmental insurance business, XL Group
Between developers’ appetite for brownfield properties as the economy recovers and strict environmental regulation, the robust pollution legal liability market is “a huge enabler” of brownfield development, said Jim Vetter, environmental risk, insurance and solutions expert, managing director, Marsh.
Traditional pollution insurance will cover unknown contaminations that emerge post-sale, but not known contaminants, many of which buyers, sellers, insurers and regulators should be aware of from the due diligence studies, said Wasilchuk.
Along with “workhorse” pollution legal liability products, transactions also lean on the resurging remediation cost cap insurance market, said Vetter. Although many buyers and sellers still “play hot potato” with known cleanup liabilities through transactional methods, such as indemnification, purchase price adjustment and escrow accounts, they also look to environmental liability buyouts.
In these transactions, a third party assumes ownership in perpetuity of a property’s known environmental conditions in exchange for payment. The buyout company takes on responsibility for remediation and liability.
Among the advantages, said Jostes, is that such arrangements free property owners to concentrate on their core business while the buyout company “owns” and neutralizes the relationship with regulators, which can be adversarial with property owners.
The Power of Indemnification
In some cases, said Mary Ann Susavidge, chief underwriting officer, XL Group, sellers don’t want buyers to perform due diligence and will sell a property only on a “buy as is, where is” basis.
Lacking an appetite for environmental risk, banks often require a Phase I inspection, but buyers that finance the purchase themselves may still accept those risks for a desirable property, either stand-alone or bundled in a portfolio.
“If the property is so desirable, and if the buyer feels it’s educated enough about potential risks, it becomes a ‘don’t ask, don’t tell,’ situation,” Susavidge said. “If they poke around, state or federal regulations may force them to take corrective action.”
For example, the Industrial Site Recovery Act (ISRA) may pertain to New Jersey properties, where certain types of operations trigger a requirement to perform an environmental investigation that may not be required in other states.
“If the new entity wants to add the property to its portfolio, it might be motivated to take on the perceived risk. It’s a risk management choice,” Susavidge said.
A buyer forewarned of likely contamination may negotiate a reduced price, said Cathy Cleary, executive underwriter, XL Group, who is also an environmental attorney. She looks at a laundry list of contractual items that make a strong indemnity for buyers and sellers. It may come in the form of a purchase and sale agreement, or a separate indemnity agreement.
For example, who is responsible for investigation of any environmental issues and subsequent cleanups? If there are claims, how are they made, and who pays? What kind of protection is the buyer getting for future environmental liability obligations, and how long will the indemnity last?
Are there monetary caps on the indemnity — say, for the first $2 million only? Are there retentions before the indemnification pays? If contamination migrates to or from another property, who is responsible for the cleanup? Who is responsible for bodily injuries in the community? Property claims? Third party claims?
Most important is the financial strength of the indemnifier. A seller that is a limited liability company raises a red flag, said Matt O’Malley, president, North America environmental insurance business, XL Group. “Even if the indemnifier’s parent company is highly rated by Moody’s or A.M. Best, do we have the financial backing of the parent, or is it limited to the assets of the limited liability company?”
Quantify the Risks
Ann Viner, general counsel and director of environmental risk management, WCD Group, said brownfield risk management is like a three-legged stool composed of the contract, the insurance, and properly scoped schedule and budget.
All three are best managed by quantifying the property’s environmental risk, she said, which is separate and distinct from a qualitative “guestimate” based on the kind of contamination and historical outcomes of similar properties.
Quantifying the risk is relatively easy in transactions involving a single property, said Marc S. Faecher, senior vice president at TRC, a risk management, engineering, and construction management organization.
With a single property, he said, “you know where the property is located and what its issues are.”
However, he said, portfolios of real estate that blend desirable and impaired properties across primary, secondary and tertiary markets require more detailed analysis. Portfolios likely involve sites facing a variety of issues, and apportionment of responsibility between buyer and seller can be complicated.
“You need to analyze what ultimate cleanup costs would be and what cash flow impacts would be. You need to analyze when the liability would hit and deal with structuring remediation programs to reduce liability over time,” Faecher said.
Experienced consultants aim for a cost risk with a 95 percent degree of confidence, said Viner.
To quantify risk, the consultant develops data inputs for a risk modeling program, then runs iterations based on various scenarios. A lower confidence level can produce a spread of several million dollars in estimated cleanup costs, but a good quantitative analysis will identify the driver for the low confidence level, such as PCBs in the sediment.
Once aware of what information is missing, the consultant can obtain additional data on that driver. Using the new data, a risk modeling program produces a closer estimate of likely remediation costs.
“We know more about what remediations are called for, how much they’ll cost and how long they’ll take,” Viner said. “We can define better contract terms, better and more specific insurance coverage. Quantifying risk helps all three legs of the risk management stool.”
Scrambling for Cover
School districts have been forming insurance purchasing pools for decades to trim their premium rates, and the trend is accelerating as they face financial pressure from hobbled state and municipal budgets, new state laws and the Patient Protection and Affordable Care Act (ACA).
Even though the trend is accelerating, pooling faces a number of challenges. For example, some rural districts’ attempts to create or join a pool may be frustrated by carrier-imposed size requirements.
Scott R. Baldwin, managing director of the public sector practice, Arthur J. Gallagher & Co., said some “big carriers” that dominate the health care insurance market in rural areas decline to insure small- and mid-size districts that could benefit from joining or forming purchasing pools.
A district that joins a pool may not be able to find coverage in its region, even with the same carrier that covered it on a stand-alone basis. Most carriers will fully insure a school district with as few as 20 employees on a stand-alone basis.
“It may not be in the best financial interest of insurance companies to participate in coalition planning,” Baldwin said. It makes financial sense for the districts, however, especially those with proper stop-loss coverage and adequate funding. But once a district joins a pool, a carrier may drop its coverage — and all of the other districts in that pool.
“It may not be in the best financial interest of insurance companies to participate in coalition planning.” — Scott R. Baldwin, managing director, public sector practice, Arthur J. Gallagher & Co.
The cutoff for health care coverage, Baldwin said, is at about 150 covered lives for pools. At 150 and above, most major carriers are willing to provide stop loss, PPO network access and claim administration services to pools. Not all states permit joint purchasing agreements, and those that do impose stiff regulations on their operation, Baldwin said.
Another challenge for school districts is that changing carriers can be challenging.
Mobility between carriers can be somewhat restricted for California school districts, even those that are fairly large, said Deb Mangels, senior vice president of employee benefits and founding principal of ABD Insurance and Financial Services. Due to industry-standard marketing and underwriting guidelines, a school district can be “handcuffed” to the giant managed care consortium Kaiser Permanente.
This reflects a combination of demographics and logistics. A significant number of public employees residing in the heavily populated regions of California receive health care from Kaiser through the California Public Employees’ Retirement System (CalPERS). But Mangels said underwriting data for small- to mid-sized pools is hard to come by.
“Getting claims data out of Kaiser for groups under 5,000 is nearly impossible,” Mangels said, and without good information on a group’s claims experience, prospective carriers are unable to project future claims costs either as a stand-alone district or as part of a pool.
With more than 1,000 school districts and more than 144,000 teachers in California, plus their families and more than 250,000 eligible retirees, health care programs and associated costs are a “huge” issue, Mangels said.
Cadillac Tax Driving Change
The ACA imposes yet another challenge for school districts. The High-Cost Employer-Sponsored Health Coverage Excise Tax provision of the ACA — the “Cadillac tax” — pressures public school teachers to shoulder more of the costs of their historically generous health care benefits.
When it takes effect in 2018, the Cadillac tax will impose a 40 percent levy on individual health plans above $10,200 for individuals and $27,500 for family coverage, with both employer and worker contributions included. The tax applies to both insured and self-funded plans.
Mangels sees preparing school districts and unions for the ramifications of the Cadillac tax as an essential part of the broker’s role. Education of union reps is particularly important.
“If they aren’t comfortable with information we provide, they won’t communicate it to their members accurately,” Mangels said.
John Abraham, director of worker benefits and capital strategies for the American Federation of Teachers (AFT), said the quality of health care plans has not diminished among unionized school districts, but notes “a big push” among employers to higher deductible plans because doing so helps them avoid the Cadillac tax.
However, fewer than 5 percent to 10 percent of teachers currently choose that option. Most older, experienced teachers with families opt for traditional HMOs and PPOs.
“Benefits have eroded to the extent that teachers contribute more to premiums and pay higher deductions.” — Mike Nault, executive director, human resources, Oshkosh Area School District
Where states have been aggressive in reforming benefit packages for schoolteachers, the results have been mixed.
Three and a half years after the passage of Act 10 in Wisconsin, the Oshkosh Area School District struggles to maintain teachers’ health care benefits and give them pay raises that at least keep up with cost of living increases.
“Benefits have eroded to the extent that teachers contribute more to premiums and pay higher deductions,” said Mike Nault, executive director of human resources, Oshkosh Area School District.
The law requires state employees to pay at least 12.6 percent of the average cost of annual premiums, and it requires changes in plan design to reduce current premiums by 5 percent. Wisconsin is considering switching from its HMO model to self-insurance.
The passage of Act 10 also requries districts to go to bid for health care insurance, rather than specifying carriers. “The competition made the carriers sharpen their pencils,” Nault said. “We get a fairly decent product at a lower price.”
Although many teachers are reconciled to paying more of their health care insurance costs, many are pushing back at what they perceive as an assault on their benefits, pay and general respect.
Sandi Fisher, a 5th grade teacher at a public school in the depressed Kensington neighborhood of Philadelphia, said she can’t make an appointment with some of her medical providers because they’ve opted out of her Keystone HMO plan.
Still, she said, “no one’s complaining about making contributions. It’s everything else they’re taking away.” The district doesn’t reliably provide classroom supplies, such as paper. And it wants teachers to give back up to 13 percent of their salaries to the district in addition to taking the cuts in benefits.
“No one’s complaining about making contributions. It’s everything else they’re taking away.” —Sandi Fisher, teacher, School District of Philadelphia
Relations between the School District of Philadelphia and the Philadelphia Federation of Teachers are so acrimonious that the district’s School Reform Commission voted last fall to cancel the union contract and impose new health care terms on the union. In a victory for the union, the Pennsylvania
Commonwealth Court ruled on Jan. 22 that the district may not restructure the collective bargaining agreement between the teachers union and the school district, sending the warring parties back to the negotiating table.
The discord in the Philadelphia system is “indicative of what’s going on in the country,” although that is magnified by the large size of the metropolitan school district, said Baldwin.
For school districts that use substitute teachers, their hours present a challenge under the ACA.
Historically, said Dr. Frank Vail, director of insurance services, South Carolina School Boards Association, substitute teachers didn’t get benefits, but under the ACA, they do if they work enough hours to be considered full-time workers.
“The problem is how to track and keep records,” he said, since several recordkeeping formulas apply.
“Some districts have contracted out substitute teaching to companies like Kelly so they don’t have to deal with it.”
Others, said Abraham of the AFT, have cut teachers’ hours to avoid the mandate to offer insurance to full-time employees. “That wasn’t the intention of the mandate. Where employers don’t work with us on ways to mitigate the impact of the employer mandate, it’s a mess.”
Wellness programs are a more welcome cost-cutting strategy, both for health care, and worker’s compensation insurance and claims, which are a school district’s biggest insurance cost, according to Michael McHugh, area senior executive vice president, public and nonprofit division, Arthur J. Gallagher & Co.
For example, many Wisconsin districts have implemented health risk assessments and introduced on-site or near-site clinics, a convenient, lower-cost form of health care.
Wisconsin’s Act 10 requires health risk assessments aimed at participant wellness and collection of data related to assessing the quality and effectiveness of health care providers.
Daniel Wolak, president, Union Labor Life Insurance, sees a trend to freestanding, on-site clinics staffed by full-time doctors and nurses, such as the ones in Wisconsin.
“These clinics act as gatekeeper,” he said, directing teachers to pricier specialists only when necessary. They also free up the teachers’ own doctors to spend more time with their patients when they make office visits.
The push for wellness, however, introduces privacy concerns, Abraham said.
“Individuals worry when employers ask about their health status. They ask, ‘Will I get fired because I’m using health care benefits? Will my premium go up?’ ”
And then there are administrative decisions: Penalties or incentives? An additional $50 on premiums for employees who don’t do the health screens or a $50 gift card for those who do?
“All districts want to take care of their kids’ teachers. … There’s no one-size-fits-all solution.” — Norman Reisman, retired benefits consultant, multiemployer funds
Insurance companies, working with school districts, unions or coalitions, can adjust plan design to trim premium costs, said Norman Reisman, a recently retired benefits consultant with more than 40 years of health care insurance experience in multiemployer funds. Pharmacy benefits are “the fastest-growing chunk of health care spend,” he said.
Plans can save money by encouraging the use of generics and incenting mail order instead of retail prescriptions. These small moves save “a lot” of money. Plans can also require greater member contributions and tighten up eligibility requirements, Reisman said.
“All districts want to take care of their kids’ teachers,” Reisman said, but federal and state laws, the prevailing culture and the district’s financial health all play a role.
“There’s no one-size-fits-all solution,” he said.
Filling the E-Waste Insurance Gap
The technology industry cultivates a popular impression of itself as “clean,” with products packaged in spotless white boxes, but the manufacture — and ultimate disposal — of these products is far from clean and carries considerable risk.
For example, older circuit boards contain lead, tin, cadmium and mercury, which are regulated as hazardous waste and can cause contamination when released, said Bill McElroy, senior vice president, Liberty International Underwriters. Such contamination is difficult and expensive to remediate.
“We insure our clients against the risk that they make their neighbors sick or contaminate the environment,” he said.
Most e-waste recycling is about getting valuable rare earth minerals out of electronics for reuse in new products.
Less-valuable plastic components and metals are also recovered and recycled, but the unusable waste is landfilled or incinerated, a process that may release gasses into the air or toxins into groundwater.
E-waste recyclers often believe their general liability policies cover any accidental releases, only to find out too late that their total pollution exclusion leaves them liable — and pollution claims tend to be very high-ticket incidents.
“I wouldn’t recommend anyone in the waste management business not have pollution insurance,” McElroy said.
Elizabeth Bannister, managing director, Marsh, suggested that electronics recyclers look hard at the language in their general liability coverage. The standard coverage is likely to include a pollution exclusion that includes “materials to be recycled, reconditioned or reclaimed.”
If that is the situation, she said, such recyclers should consider filling the gap with affirmative coverage for pollution liability.
Recyclers may not understand that insurers define their products as “pollutants” or “hazardous materials,” since the EPA and other regulatory bodies use different definitions, said Ross Fields, manager of the e-waste insurance program at Leavitt Group.
But since recyclers’ business is the waste stream, nearly everything they touch is a “pollutant,” and the insurance industry considers their “product” to be a pollutant until it reaches its final point of destruction or reuse, he said.
These semantic nuances have big implications for potential liability.
The provision in a general liability policy covering “products and completed operations” would not cover bodily injury or property damage arising out of their product: pollution. A company in electronics recycling needs products pollution liability, experts said.
It’s also important for producers of materials to make sure their downstream e-waste recyclers have environmental liability coverage, said Matthew Pateidl, vice president, environmental risk, Lockton.
“Vet your vendors,” he said.