Environmental site assessments, Phase I and Phase II, are the due diligence tools that lenders and developers use to identify environmental contamination on a prospective development site before committing capital to acquire it or finance its development. The assessments are not optional for commercial real estate transactions; they are the mechanism through which lenders satisfy CERCLA’s “innocent landowner” defense, and they are the tool through which developers avoid acquiring sites whose remediation cost makes development uneconomical.
Understanding what each phase covers, what it can miss, and when the Phase II investigation is required is practical knowledge for every developer and construction lender who evaluates commercial land and existing buildings.
Phase I: The Non-Invasive Investigation
A Phase I Environmental Site Assessment is a non-invasive review of the site’s environmental history, a records review and site reconnaissance that identifies “recognized environmental conditions” (RECs) that suggest past or present contamination may exist on the site. Phase I assessments follow the ASTM International standard E1527-21, which specifies the scope of work required to constitute an “appropriate inquiry” under CERCLA.
The Phase I scope includes four primary components:
Records review. The environmental professional reviews federal and state regulatory databases for listings of the site and nearby properties on contamination registries, underground storage tank records, hazardous waste generator records, and other regulatory files that indicate past or present contamination. The records review also includes Sanborn fire insurance maps, aerial photographs, and city directories that document historical site use, information that reveals whether the site was historically used for dry cleaning, gas station operations, industrial manufacturing, or other uses that commonly cause soil and groundwater contamination.
Site reconnaissance. The environmental professional visits the site and surrounding area to observe current and past conditions, the presence of underground storage tanks (USTs) or evidence of former USTs, surface staining, stressed vegetation, distressed soil, drums or containers of hazardous materials, and other physical indicators of contamination.
Interviews. The Phase I requires interviews with the current owner, occupants, and local government officials familiar with the site’s history. These interviews can reveal information about past uses, spills, or environmental incidents that are not reflected in regulatory records.
Report. The Phase I concludes with a written report that identifies RECs, recognized environmental conditions, and historical recognized environmental conditions (HRECs) and controlled recognized environmental conditions (CRECs). RECs are the assessment’s primary output: conditions that indicate the possible presence of contamination requiring further investigation.
What Phase I Cannot Tell You
The most important limitation of Phase I is that it cannot confirm whether contamination actually exists on the site. Phase I identifies conditions that suggest contamination may be present; it does not test soil or groundwater and cannot quantify contamination levels. A Phase I that identifies no RECs provides reasonable assurance that the site does not have obvious indicators of contamination, but it cannot guarantee that contamination is absent.
Phase I assessments also have a temporal limitation: they are snapshots of the conditions and records available at the time of assessment. A Phase I conducted on a gas station site may identify the RECs associated with the fuel storage system, but if the underground storage tanks were properly closed out and the soil remediated to regulatory closure before the Phase I was conducted, the Phase I may show a HREC (historical recognized environmental condition) rather than a current REC. Understanding the significance of HRECs and CRECs, and whether they represent conditions that have been addressed or conditions that remain active, requires environmental professional judgment that goes beyond a mechanical reading of the report.
Phase II: When Sampling Is Required
A Phase II Environmental Site Assessment is a sampling investigation, soil borings, groundwater monitoring wells, and laboratory analysis, designed to confirm or refute the presence of contamination identified in the Phase I. Phase II is required when the Phase I identifies RECs that represent a material risk warranting further investigation before acquisition or financing.
The Phase II scope is tailored to the specific RECs identified in the Phase I. A site with a REC related to a former dry-cleaning operation would be sampled for chlorinated solvents (perchloroethylene and its degradation products). A site with a REC related to former fuel storage would be sampled for petroleum hydrocarbons and BTEX compounds. A site with a REC related to former industrial operations might be sampled for heavy metals, solvents, or other industrial chemicals specific to the operations conducted.
Phase II scope, sampling locations, and analytical parameters are defined by the environmental professional based on the Phase I findings and the specific contaminants of concern. Phase II results either confirm that contamination is present (and at what levels) or provide reasonable assurance that the Phase I’s identified RECs represent conditions that do not result in actual contamination.
Environmental Liability in Construction Loan Underwriting
For construction lenders, the Phase I is a required component of pre-closing due diligence, most lender policies mandate a Phase I for any commercial acquisition or construction loan, and many specify ASTM E1527-21 as the required standard. The Phase I must be conducted by a qualified environmental professional and must be current (typically less than 180 days old at closing).
When the Phase I identifies RECs that require Phase II investigation, the construction lender’s underwriting must address the environmental liability risk before closing. If the Phase II confirms contamination at levels requiring remediation, the lender must assess: the estimated remediation cost, who bears the remediation liability (the current owner, the historical operator, or the purchaser through acquisition), whether the remediation can be completed on a timeline consistent with the development program, and whether the remediation cost, added to the acquisition and construction cost, makes the project feasible.
Sites with active remediation programs, where a responsible party is conducting remediation under a regulatory order, are sometimes developable concurrent with remediation, but require coordination between the development program and the regulatory remediation requirements that is more complex and more time-consuming than development on an uncontaminated site.
For a complete treatment of this topic, see our guide to development advisory: the complete guide for developers and investors. Innergy Integral provides these services in Seattle, WA and across our six-state footprint.
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