The Lenders Perspective on Environmental Insurance Products

The perceived risk associated with a Brownfield transaction is both market driven and very real. That perceived risk has increased with the downturn in real estate in general. In the early 1990’s environmental risk was seen as the boogieman. The perceived risk was blown out of proportion to the real risk, as a result; there were properties to be cherry picked at quite a discount. Then the pendulum swung the other way. All real estate was seen as forever rising in value and any risk was acceptable . Today, the market is reevaluating all risk and environmental risk is once more of concern. Somewhere in between the extremes is a rational model of risk evaluation.

Environmental insurance can be a viable tool. Some of the most aggressive insurers in the market are no longer underwriting risk. Using environmental insurance as a liability control mechanisms is one of several tools available to the lender or commercial real estate purchaser. Using environmental insurance in selective situations where it is an enhancement, not the dependant source of repayment, appears the most appropriate use and a very powerful one. For example; an appropriate use of insurance is where the estimated cleanup costs are place in escrow or otherwise held back, there is an approved work plan, but to eliminate uncertainty “Cleanup Cost Cap” insurance is added to the package because the financial flexibility or additional available resources are limited. A Second example is would be obtaining pollution liability insurance on a site that has received closure and does not have an environmental indemnity (this could be an instance when the bank is selling REO property, or simply acting as a lender), or where there may be concern for the quality of the cleanup, the regulatory risk of a closure, or the resources of the indemnitor.

Adding insurance to some situations can have an impact on the form of financing for a project and on the property cost and value itself. The insurance product appropriately used can restore impaired value due to “stigma” after a remediation has been completed or substantially completed. We are only now rediscovering “stigma” may exist after all. Remember though, value impairment due to maintenance of engineering controls are dollar value discounts that have to be paid and can not be restored through insurance. Value loss, due to use restriction cannot be restored with insurance. Also, negligence and stupidity are just not insurable conditions.

Insurance, like land use covenants and institutional controls, has been used to facilitate the financing and remediation for the redevelopment of Brownfields and the sale of REO. However, these are not appropriate in all situations and their use should not be taken to extremes. In truth, the market has grown as all markets do at first exponentially during a period when real estate values were growing at an incredible rate. As the real estate market got hotter in what was perceived as a waning regulatory environment, there was less and less concern for environmental impairment. Now are we seeing a shift in the real estate market, the increase in non-performing loans and a strengthening in the regulatory environment. In the next few years we may see, how some of these insurance products actually perform against expectations and promises. Whether they indeed provide the perceived protection is about to be seen.