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Compliance: Examining tenant liability for pre-existing contamination

The 4th Circuit's ruling in Ashley II held current tenant liable as an operator because it redistributed the pre-existing contamination

Conventional wisdom within the real estate community holds that tenants are not liable for remediating contamination under the Comprehensive Environmental Response Compensation and Liability Act (CERCLA) unless the tenant actually caused the contamination. Tenants are rarely advised to perform environmental site assessments, even of industrial properties, in the belief that tenants cannot be liable for pre-existing contamination. While that assumption has always been inaccurate, a recent court decision may motivate tenants to assess properties more carefully in the event they could be held liable under CERCLA.

In April 2013, the 4th Circuit Court of Appeals held in PCS Nitrogen Inc. v. Ashley II of Charleston LLC that a current tenant was liable not only for contamination that pre-existed the leasehold, but also for contamination on adjacent property owned by its lessor that was outside of its leasehold. Such an extraordinary expansion of CERCLA liability in this case requires tenants’ counsel to rethink the previously accepted conventional wisdom that their clients cannot be held liable for pre-existing contamination.

CERCLA does not identify tenants among the four groups responsible for remediating contamination. Instead, CERCLA assigns liability to the “owner” or “operator” of a property from which a hazardous release occurs and to person(s) who “owned or operated at the time of disposal of any hazardous substance.” CERCLA loosely defines the terms “owner” and “operator,” so evaluating liability for holders of different types of real property interests, especially tenants, has been a judicial work in process.

While the plain language definition of the terms suggests that a tenant may be more of an operator than an owner, some courts have deemed tenants to be owners when their lease gives them extended and substantial power over the real estate and limits the title holder’s control of the property. In this view, courts assess whether the lease authorizes the tenant to exercise key rights and obligations of property ownership, while precluding the actual owner from those same rights. Courts use these factors in evaluating leases:

  1. Whether there is a long-term lease, during which the lessor cannot direct how the property is used;
  2. Whether the lease can be terminated by the lessor before the end of its term;
  3. Whether the lessee can sublet without permission of the owner;
  4. Whether the lessee is responsible for paying all costs, including taxes, assessments and operation and maintenance costs; and
  5. Whether the lessee is responsible for making any and all structural changes and other repairs.

In contrast, judicial evaluation of operator status usually hinges on a tenant’s operation of the activity that led to the contamination. The Supreme Court held in United States v. Bestfoods that the term “operator” refers to someone who managed, directed and conducted “operations having to do with the leakage or disposal of hazardous waste or made decisions about compliance with environmental regulations.” However, in Ashley II, the district court held that a number of cases after Bestfoods assigned liability to a current operator for pre-existing contamination regardless of whether the operator utilized the contaminating operations. The court reasoned that if the language of CERCLA imposes liability on current owners regardless of the date of disposal of hazardous substances, then it must extend the same liability to current operators regardless of whether they ran the operations that led to the hazardous release. Under this reasoning, a current tenant who is deemed an “operator” would be liable for pre-existing contamination.

While the 4th Circuit’s decision in Ashley II did not go quite that far, it did hold the current tenant liable as an operator because it redistributed the pre-existing contamination during construction on its own parcel. Even though there is a precedent for that decision, the court made a significantly more troubling expansion of this liability when it held the tenant liable for contamination of the entire site, including property outside of and unconnected to the leasehold parcel. The leased premises were part of a larger parcel under common ownership by the lessor and the subject contamination came from operations elsewhere on the parcel. The court relied on CERCLA’s broad definition of “facility” to find the tenant, as a current operator, liable for the costs of remediating the entire site and refused to consider that the tenant’s liability should be limited only to that portion on which they actually operated.

Ashley II is unquestionably an outlier and most courts require a tenant to have had some responsibility for operations that led to the release of hazardous substances. Yet the Supreme Court denied certiorari in November 2013, so it remains good law in the 4th Circuit and available for reference in all others. As a result, counsel should take steps to protect their clients from CERCLA liability. It is very unlikely that these cases would impact lessees in multi-tenant office buildings, but potential lessees of industrial or commercial properties (where a release of hazardous substance is more probable) should apply a higher level of scrutiny by considering the following actions:

  • Ensure that the lessor agrees to indemnify the tenant against any liability both for pre-existing contamination and for contamination occurring during the lease but outside of the leased premises;
  • Consider performing some type of environmental site assessment to address potential site liability. For commercial properties, consider an environmental screening assessment rather than a full-blown Phase I; however, the latter should be considered for industrial properties or in any situations where there is a more likely threat of release; and
  • Tenants considering long-term leases, which might place them into the category of an owner, should both perform an environmental site assessment and evaluate whether the lease can been softened to avoid such a result.

In any event, prospective tenants should never rely solely on their tenant status to protect them CERCLA liability.

Contributing Author

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David L. Rieser

David L. Rieser, special counsel in the Environmental, Regulatory and Redevelopment Law practice at Chicago-based Much Shelist, has over three decades of experience advising...

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