🔒Banks emerge as key gatekeepers under CT’s new environmental cleanup system

Connecticut’s new environmental cleanup law was expected to make it easier to buy and redevelop commercial properties by eliminating a decades-old regulatory hurdle. But even after the state dismantled the Transfer Act this year, banks are expected to continue demanding extensive environmental testing before financing deals — effectively becoming the new gatekeepers for contamination risk, experts say. When Connecticut lawmakers agreed to replace the 40-year-old Transfer Act, officials estimated a less-onerous environmental review and cleanup process would unlock $3.78 billion in growth over five years. Experts still expect the change to spur investment in properties that once might have fallen under Transfer Act review. But costly environmental testing is unlikely to disappear, as lenders move to protect themselves from liability. “It doesn’t matter what you want, or I want in the transaction,” Lee Hoffman told an audience of commercial real estate brokers in April. “It matters what the bankers want.” Hoffman, chairman of law firm Pullman & Comley, spoke during a panel discussion hosted by the Connecticut and Western Massachusetts chapter of the Society of Industrial and Office Realtors. SIOR members were key in a yearslong effort to replace the Transfer Act with a “release-based” system similar to those used by most other states. Approved last year, the new system took effect March 1, although properties already undergoing environmental review and cleanup under the Transfer Act will still need to meet the old standards. Supporters of the new system say it eliminates what critics long described as the Transfer Act’s “guilty-until-proven-innocent” approach. Under the old law, properties that generated, stored or processed more than 220 pounds of hazardous waste in a month triggered state review whenever they changed hands. The review alone could cost tens or even hundreds of thousands of dollars, including on sites where no contamination had ever been documented. Under the new system, property owners are required to address contamination as it occurs, or when evidence of a release is found.

Rigorous review

Jayne Kelly, chief commercial banking officer at Naugatuck-based Ion Bank, said her institution’s environmental review requirements remain as rigorous as ever. All commercial properties used as collateral for loans above $1 million will still require at least a “Phase I” environmental review by a licensed environmental professional. Phase I reviews examine records and site conditions for signs of historic contamination that could require additional investigation, she said. If concerns arise, lenders may require a “Phase II” review involving physical sampling and testing. Kelly said banks still require extensive environmental due diligence to ensure properties used as collateral do not create future environmental liability, particularly in the event of foreclosure. John Carusone, president of the Bank Analysis Center, said regulators reviewing large commercial loans will expect lenders to offload environmental liability to borrowers. “Banks are not in the business of accepting liability for hazardous materials,” he said. Still, Carusone said the state’s new release-based system should encourage more commercial real estate lending activity because it aligns Connecticut more closely with neighboring states.

Emerging legal questions

Sam Haydock, a principal with engineering, architecture, environmental and surveying firm BL Companies, said lenders are increasingly consulting attorneys earlier in commercial real estate deals because of uncertainty surrounding the new rules. For example, contamination uncovered during lender-required environmental testing can trigger obligations for property owners to report findings to state regulators.

Haydock predicted fewer owners will voluntarily investigate environmental conditions before putting properties on the market as a result. “Under the old system, there just was less obligation to report,” Haydock said. Buyers and lenders are likely to become the primary drivers of environmental investigations, he added. “The due diligence and the investigations are really now driven by the market and not so much by a seller or an owner wanting to see what they have,” Haydock said.

Derek Ezovski, president of West Hartford-based ORMS, said Connecticut’s shift away from the Transfer Act should simplify environmental due diligence for lenders, particularly on properties that may have triggered extensive reviews under the old system. ORMS, which stands for Outsourced Risk Management Solutions, specializes in environmental risk management and due diligence for commercial real estate lenders. Ezovski said the Transfer Act often required extensive and costly testing on properties with only limited signs of potential contamination, sometimes turning relatively modest reviews into projects costing as much as $75,000 to $100,000. Ezovski said the new framework gives lenders more flexibility to tailor environmental reviews to the risks of a specific transaction. Shaun Dwyer, senior vice president of commercial lending with regional and multistate lender PeoplesBank, said his organization already approached environmental review in Connecticut similarly to how it handles loans in Massachusetts, which already used a release-based system. Even under the prior system, Dwyer said lenders relied on environmental reviews, guarantees, escrows and reserves to protect against contamination risks, so underwriting practices are unlikely to change significantly under the new law. Instead, Dwyer said the larger impact could come from improved marketability for properties that previously carried Transfer Act stigma simply because of historic industrial uses, rather than evidence of contamination. “I think what it probably will do is you’ll start seeing maybe a few more transactions being out in the marketplace because of this,” Dwyer said. That increase in deal flow could help unlock redevelopment opportunities for older industrial and commercial sites that previously faced added scrutiny or diminished buyer interest under the Transfer Act, he added.