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paBanker
The Official Magazine of the Pennsylvania Bankers Association
New Uniform State Legislation
Promotes the Use of Contaminated
Real Property as Collateral for
Commercial Lending
By Raymond P. Pepe1, K&L Gates
A new uniform state law now in effect in
21 states including Pennsylvania, the
Uniform Environmental Covenants Act (or
“UECA”), may have a significant effect
upon the use of contaminated real property
in asset based lending. The legislation,
which is expected to be considered for
possible enactment by 20 additional states
during 2008, provides a set of uniform
Raymond P. Pepe
standards and procedures that govern the
creation, recording, enforcement, modification, and termination of
activity and use restrictions imposed by federal and state agencies in
remediation projects that are intended to bind future land owners.
The UECA was developed by the National Conference of
Commissioners on Uniform State Laws (the “NCCUSL”) working in
cooperation with the U.S. Environmental Protection Agency, the
Army Corps of Engineers and numerous other groups and
organizations involved in the clean-up and management of
contaminated properties, including the American Bankers
Association. The goal of the UECA is to promote the use and reuse
of contaminated properties by eliminating much of the confusion
and uncertainty currently surrounding environmental covenants.2
To take advantage of the UECA, lenders need to understand when
and how environmental covenants affect mortgage interests in
property. In addition, where environmental covenants take priority
over mortgage interests, or lenders elect to voluntarily subordinate
their interests to environmental covenants, lenders need to develop
policies for working with property owners and governmental agencies
to promote the marketability and value of properties affected by
environmental covenants.
Reprinted from paBanker Magazine
Overview of the UECA
A. Applicability
The UECA applies whenever a Federal or state regulatory agency
approves an environmental response project involving the
remediation of contaminated real property that includes a plan of
work which requires activity and use restrictions to be imposed upon
real property. Activity and use restrictions are measures which bind
current and future property owners to implement institutional or
engineering controls needed to control the migration of regulated
substances through the environment and restrict activities or uses of
property that may interfere with the integrity of remedial actions or
expose users of real property and the public to health and safety risks.
Typical engineering controls include installation of slurry walls, liner
systems, caps, leachate collection systems and groundwater recovery
trenches. Commonly used institutional controls consist of
prohibitions upon the extraction or use of groundwater, protocols for
excavating soil, or the use of property for residential purposes.
While the UECA generally defers to other state laws to determine
when activity and use restrictions are required to implement
environmental response projects, the Pennsylvania version of the
UECA requires the law to be applied whenever the State Department
of Environmental Protection approves projects pursuant to the state’s
Land Recycling Act and the Storage Tank and Spill Prevention Act.
B. Requirements to Establish Covenants
To create enforceable covenants, the UECA requires the creation
of an instrument, stating that it has been executed pursuant to the
Act, which contains (1) a legally sufficient description of any affected
property; (2) the designation of a “holder” to which the interests
created by the covenant are granted (who may be the grantor of the
covenant); (3) the signatures of the federal or state agency which has
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approved the environmental response project, the holder of the
covenant, and the fee simple owner of the property (or other persons
required to sign the covenant by the response agency); (4) a
description of the activity and use restrictions; and (5) a disclosure of
the location at which the full administrative record regarding the
response project is maintained. In addition, the covenant must be
recorded in the county land records and with a central registry
established by a state agency, for example, in Pennsylvania; covenants
must be registered with the Department of Environmental
Protection.
Beyond the minimum required contents of an environmental
covenant, instruments establishing covenants may require notice of
transfer of specified interests in an affected property or a change in its
use; require the filing of periodic reports; grant designated parties
access to property; describe the manner in which the property has
been contaminated and the contamination remedied; establish
limitations on the termination or amendment of the covenant; and
designate any rights granted to a holder in addition to the right to
enforce the covenant.
C. Legal Impact of Environmental Covenants
Under the traditional law of environmental servitudes, numerous
questions have historically arisen regarding the enforceability of
covenants. For example, questions exist regarding whether holders of
covenants must own interests in real property in order for covenants
to run with the land rather than creating only personal obligations.
Similarly, it is uncertain whether and to what extent covenants may
be assigned to new holders; whether covenants may impose
affirmative duties rather than only negative obligations; and whether
current property owners may designate themselves as holders of
covenants. An environmental covenant can be a key component of
an environmental cleanup so the uncertainty about their validity and
enforcement has been of concern to regulatory agencies and to
entities that are potentially responsible for cleanup.
The UECA clarifies that any person may be a holder of a
covenant, including a current or prior property owner, a mortgagee, a
land conservancy, or a state or local agency. The UECA also specifies
the circumstances under which covenants may be assigned to new
holders and clearly allows covenants to impose affirmative obligations
upon landowners.
D. Duration and Modification of Environmental Covenants
Once established, the UECA provides that an environmental
covenant is perpetual unless it is (1) limited by its terms to a specific
duration or terminated by the occurrence of a specific event; (2)
terminated or modified by the consent of the parties to the covenant;
(3) terminated or modified by a court based upon a change in
circumstances; or (4) terminated by foreclosure or eminent domain.
The UECA provides that judicial proceedings to modify or
terminate an environmental covenant may only be initiated with the
consent of the agency that approved the covenant. The refusal of an
environmental agency to consent to the modification or termination
of a covenant, however, constitutes a final agency action subject to
administrative appeal. Jurisdiction over proceedings to terminate or
modify covenants falls with courts with jurisdiction over other
matters affecting title to real property, while administrative appeals
are subject to state administrative procedure laws.
Vol 10.1 • January/February 2008
In Pennsylvania, judicial termination or modification proceedings
will fall under the jurisdiction of county Courts of Common Pleas,
while administrative agency appeals will fall under the jurisdiction of
the Environmental Hearing Board unless an agency other than the
State Department of Environmental Protection approves an
environmental response project.
E. Voluntary Modification of Environmental Covenants
The UECA requires consent for the voluntary termination or
modification of an environmental covenant be obtained from the
agency that approved the covenant, all of the original parties to the
covenant, the owner (unless waived by the response agency), and the
holder of the covenant. Alternatively, the UECA allows any party to
waive its right to consent to the termination or modification of an
environmental covenant.
In circumstances in which a party to a covenant no longer exists
or cannot be located or identified with the exercise of reasonable
diligence, the UECA allows a court to fill a vacancy in the position of
holder and allows the parties to a covenant to agree to remove and
replace a holder.
F. Enforcement and the Impact of Environmental Covenants
Upon Holders of Prior Interests in Property, including
Mortgages
The UECA authorizes the initiation of civil actions for injunctive
relief for remedy violations of environmental covenants. An
enforcement actions may be initiated by (1) any party to a covenant;
(2) the agency that approved the covenant; (3) any person to whom
the covenant expressly grants enforcement powers; (4) any person
“whose interest in the real property or whose collateral or liability
may be affected by the alleged violation of the covenant; or (5) a
municipality in which the real property subject to the covenant is
located.
Although environmental covenants are enforceable against
property owners and others who expressly assume obligations
pursuant to the covenants, the UECA provides that interests in
properties that have priority under other laws, such as mortgages, are
not affected by environmental covenants, unless such interests are
voluntarily subordinated to the covenants.
The UECA also provides that holders of interests with priority
over environmental covenants are not required to subordinate their
interest to environmental covenants or agree to be bound by the
covenants and that foreclosure of interests with priority over
covenants terminates the covenants.
When holders of interests in property with priority over
environmental covenants subordinate their interests to the covenants,
the UECA provides that while subordination affects the priority of
interests, it does not by itself impose any affirmative obligation upon
subordinated property owners with respect to environmental
covenants.
The Pennsylvania UECA
The Pennsylvania version of the UECA takes effect on February
16, 2008, and closely follows the text of the Uniform Act. The
Pennsylvania UECA, however, differs from the law in effect in most
other jurisdictions in the several areas.3
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A. Impact on Existing Covenants
The UECA generally applies both to new covenants entered into
after its enactment in a jurisdiction and validates against common
law defenses covenants executed prior to its adoption. Pennsylvania
modified the general rules regarding the impact of the UECA upon
existing covenants, however, by requiring all previously established
activity and use limitations adopted pursuant to environmental
response projects to be “converted” into environmental covenants
within 60 months, unless mandatory conversion is waived by the
Department of Environmental Protection. While the failure to
convert pre-existing covenants into environmental covenants under
the UECA does not affect the validity of pre-existing covenants, the
failure to convert previously existing covenants does expose property
owners and holders of covenants to potential penalties and
enforcement actions for the failure to comply with conversion
requirements.
The requirements for the conversion of existing activity and use
restrictions into environmental covenants under the UECA are
unclear and hopefully will be clarified by regulations or guidance
issued in the near future by the Pennsylvania Department of
Environmental Protection. At a minimum, conversion will require
the recording of existing covenants in conformity with the
requirements of the UECA in county land records and in a central
registry that will be created by the DEP. A danger does exist,
however, that DEP may in some circumstances use conversion
requirements to re-evaluate the terms and conditions of existing
covenants. To avoid this potential, it may be in the interest of
property owners and others with interests in property affected by
covenants to voluntarily re-record covenants in the format required
by the UECA prior to being directed to do so by DEP.
B. Deemed Approvals
On of the unique features of Pennsylvania’s Land Recycling Act is
that when parties seek approval for voluntary remediation of
contaminated properties and DEP fails in a timely manner to either
approve or disapprove clean-up plans, the plans are deemed approved
by operation of law. The Pennsylvania version of the UECA applies
this same concept to DEP’s review and approval of environmental
covenants. Under the Pennsylvania UECA, covenants are deemed
approved within 90 days of the receipt by DEP of all information
reasonably required to make a determination regarding approval or
disapproval of an environmental covenant. In the event of a deemed
approval, an environmental covenant presented for recording and
registration must include a statement that the environmental
covenant was deemed approved by operation of law.
C. Recording of Waivers
As noted previously, consent to the voluntary termination or
modification of environmental covenants must be obtained from
multiple parties, but parties may waive in advance their right to
consent. Under the Pennsylvania Act, any such waivers must be
recorded in county land records and in DEP’s central registry in the
same manner as the covenants themselves.
Pennsylvania law also requires covenants, and waivers to
covenants, to comply with all other laws governing the recording of
title to real property.
Vol 10.1 • January/February 2008
Critical Issues for Financial Institutions
The existence of environmental covenants with respect to real
properties used as collateral for mortgage lending should be taken
into consideration as part of the portfolio risk management strategy
of any financial institution. The risks associated with properties
subject to environmental covenants should be taken into
consideration when initiating loans, acquiring loans initiated by other
financial institutions, and as part of a financial institutions ongoing
portfolio management process.
In dealing with environmental covenants, it is critical to recognize
that the execution and recording of an environmental covenant in
most circumstances does not represent an event that will impair the
quality of an asset. Instead, it is the contamination of real property
that impairs its value as collateral. The execution of an
environmental covenant is a strategy needed to control and limit a
property owner’s liability to remediate contamination and improve
the quality of an asset.
Unfortunatly, not all covenants are created equally and some may
be more or less advantageous to financial institutions from the
perspective of minimizing the risks associated with lending
collateralized by contaminated real property. As a result, when
confronted with transactions involving properties that have been or
may be subject to environmental covenants, lenders should carefully
evaluate how the specific terms of a covenant affect mortgage
interests in property. In particular, lenders should consider the
following issues:
A. Designation of Holders
Who should be designated as the holder of a covenant? If the
grantor of a covenant also designates itself as the holder, will and
should the holder continue to be a party to the covenant upon the
transfer of title to the real property to a new owner?
Where the grantor of a covenant is a sophisticated party with the
resources to monitor and supervise enforcement of environmental
covenants, it may be in the interests of a lender to ensure the
continued designator of the grantor as a holder who is a party to the
covenant. Alternatively, where a property may become more valuable
when a new owner of the property is also designated as the holder of
a covenant, a lender may wish to include in a covenant conditions
allowing the transfer of the rights of the holder to another party.
B. Compliance Obligations
While environmental covenants will in most cases impose
obligations on the fee simple owner of property, lenders may wish to
consider whether other parties should be designated as responsible for
compliance with activity and use restrictions.
The UECA does not mandate that obligations imposed by
environmental covenants apply to fee simple owners of property and
allows obligations to be imposed upon other parties. For example,
where a prior owner was responsible for, or assumed responsibility for
contamination, it may be preferable to designate a prior owner as
responsible for ensuring compliance with environmental covenants.
Likewise, situations may exist where obligations should be imposed
upon a long-term lessee with the ability to manage and control a site,
rather than the fee simple title holder.
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C. Notice and Reporting Obligations
While environmental covenants need not include notice and
reporting obligations, the inclusion of such obligations in covenants
may be beneficial to lenders. For example, lenders may wish to be
designated as parties to which notices must be given of proposed
changes in the use of or transfer of a property. In addition, to ensure
compliance with environmental covenants, lenders may find it
desirable to include in environmental covenants requirements for
periodic reports to environmental agencies, copies of which must be
provided to lenders.
D. Waivers and Termination Provisions
Because the existence of waivers to consents to the termination,
modification, or transfer of obligations imposed by environmental
covenants may be critical to ensure that mortgage interests are
effectively enforceable, lenders should carefully consider when to
request blanket waivers or waivers that take effect in designate
circumstances. Likewise, because covenants are assumed to be of
perpetual duration, it may be desirable to include specific terms and
conditions in covenants providing for their termination upon certain
events, or requiring their periodic reevaluation pursuant to
designated standards.
E. Subordination
Where mortgage interests hold priority over environmental
covenants, lenders should consider whether it is desirable to
subordinate their interests to the covenants or to insist upon
maintaining their priority.
In determining whether to agree to subordination, lenders need to
balance the benefits associated with making property more
marketable and a mortgage interest more valuable against the risks
and delays involved in “re-opening” remediation projects that may
arise if foreclosure terminates an environmental covenant. In
addition, because Federal and state agencies may refuse to limit or
release property owners from clean-up related obligations unless
certain prior property interests, including mortgages, are
subordinated to environmental covenants, lenders may conclude that
subordination is critical to ensuring the continued ability of
borrowers to satisfy payment obligations.
Boston, Dallas, Fort Worth, Harrisburg, Hong Kong, London, Los
Angeles, Miami, Newark, New York, Orange County, Palo Alto, Paris,
Pittsburgh, Portland, San Francisco, Seattle, Spokane/Coeur d'Alene,
Taipei and Washington, D.C.
2
The National Conference of Commissioners on Uniform State Laws is a
state government supported organization established in 1892 which is
committed to the objective of providing states with non-partisan, wellconceived and well-drafted legislation that brings clarity and stability to
critical areas of state statutory law. Members of the Conference are
practicing lawyers, judges, legislators and legislative staff and law
professors, who have been appointed by state governments as well as the
District of Columbia, Puerto Rico and the U.S. Virgin Islands to
research, draft and promote enactment of uniform state laws in areas of
state law where uniformity is desirable and practical.
3
Other unique provisions of the Pennsylvania UECA are discussed in
testimony provided by Mr. Pepe to the Pennsylvania House
Environmental Resources and Energy Committee on September 27,
2005. A copy of this testimony is available at www.klgates.com (check
“newsstand” listings). The final version of the UECA adopted in
Pennsylvania differs only in several minor areas from the version discussed
in Mr. Pepe’s 2005 testimony.
4
©Kirkpatrick & Lockhart Preston Gates Ellis LLP. This article is
provided for informational purposes and does not contain or convey legal
advice. The information herein should not be used or relied upon in
regard to any particular facts or circumstances without first consulting a
lawyer. This article may be reproduced and disseminated in print and
electronic form, without compensation, for non-commercial purposes, so
long as the full title, identification of Kirkpatrick & Lockhart Preston
Gates Ellis LLP as source, date of issuance and copyright information are
included in all copies and changes are not made to the text of the article.
More Information
The text of the UECA promulgated by the National Conference
of Commissioners on Uniform State Laws contains a detailed
prefatory note and section-by-section comments that explain the
intent and recommended interpretation of the law. In addition,
more information regarding the UECA is available at www.nccusl.org
or at www.environmentalcovenants.org.4 The full text of the
Pennsylvania version of the UECA, Act 68 of 2007, is available at
www.legis.state.pa.us.
PB
A
1
Mr. Pepe is a partner in the Harrisburg Office of the law firm of
Kirkpatrick & Lockhart Preston Gates Ellis, LLP, located at 17 North
Second Street, Harrisburg, PA, 17101-1507. He can be contacted at
717.231.5988 or Raymond.Pepe@KLGates.com. Mr. Pepe serves as
outside regulatory and legislative counsel to the Pennsylvania Bankers
Association and has served as a Pennsylvania Delegate to the National
Conference of Commissioners on Uniform State Laws since 1983. K&L
Gates is an international law firm consisting of more than over 1,500
lawyers practicing in offices located in Anchorage, Austin, Beijing, Berlin,
Vol 10.1 • January/February 2008
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