As the scope of state and federal environmental regulation has expanded, the responsibilities and potential liabilities of property owners who lease their property, particularly to environmentally sensitive businesses, have increased significantly. Traditionally, the rule has been that once control of the premises passes to the lessee, the landlord is not vicariously liable for accidents which occur on the leased property, unless he has retained control over the premises. However, today's environmental regulations vitiate such common law protection and subject the property owner to significant statutory duties and liability as regards polluted property. Since government regulations may involve them in extensive litigation in order to recover cleanup costs, despite the fact that real responsibility may rest with their tenants, property owners need to be aware of the extent of this potential risk and develop effective strategies to avoid, transfer or minimize their potential liability.

Primary Source Of Liability

The primary source of liability risk facing landlords is the Comprehensive Environmental Response, Compensation and Liability Act ("CERCLA"), 42 U.S.C. §§ 9601-9675, and its major amendment, the Superfund Amendment and Reauthorization Act of 1986 ("SARA"). Under the terms of this Act, both the government and private parties may bring recovery actions against responsible parties for costs incurred in the cleanup of releases of hazardous substances. CERCLA's definition of "responsible party" is so broad that nearly everyone involved in a real estate transaction may be liable if hazardous waste is discovered on purchased or leased real property. The term "responsible parties" includes the current owner or operator (which may include a "lessee") of a facility where hazardous substances are deposited, stored, disposed of, or placed. While at first glance, lessors may seem to fall within an "innocent party" exception if the lessee is entirely the cause of the pollution, SARA denies this defense when a continuing contractual relationship exists between the polluter and the property owner. A lease constitutes such a relationship.

While neither CERCLA nor SARA specifically states that two or more parties responsible for polluting the same property are "jointly and severally" liable for the cleanup, since courts have ruled that the EPA is not responsible for apportioning liability, one of the parties may be forced to pay the entire bill and seek reimbursement from fellow polluters. This line of precedent means that, in many cases, landlords not directly involved in the pollution problem may be forced to pay the cleanup expenses when they are guilty of nothing more than infrequent inspections of their property. See, e.g., New York v. Monarch Chemicals, Inc., 456 N.Y. 52d. 867 (App. Div. 1982); Uccello v. Laudenslayer, 44 Cal. App. 3d 504 (1975). Whether or not landlords can recover those outlays then depends on the financial ability of the tenant to reimburse the lessor.

Importance Of The Lease Agreement

What can a property owner do to protect itself under these circumstances? The first and most important line of defense available to the lessor is the lease agreement between itself and the tenant. The lease provisions are critical in avoiding, transferring or minimizing the lessor's pollution liability risk. Some important topics to cover in the lease agreement are:

• Pre-execution investigation of potential risks
• Frequent property inspection and supervision rights
• Financial responsibility provisions

The lease should initially require the prospective tenant to provide a detailed recitation of its pollution history. Appropriate pre-execution investigation of a tenant's pollution risk is key to the property owner's effective risk management. A well-drafted lease should also obligate the tenant to notify the landlord:

• before making any change in operations which might generate or increase generation of hazardous waste;
• upon discovery of any spill or release of hazardous waste; and/or
• before altering disposal practices.

Once executed, the lease should permit frequent inspections of the property by the owner upon short notice and make provision for lease termination upon discovery of improper waste disposal.

Although a lease may call for the tenant to carry liability insurance, such insurance can prove costly, particularly where the insurer requires an initial environmental assessment as part of the application procedure. An effective strategy may be for the lessor to agree to share with the tenant the costs of the environmental assessment, since it will prove valuable to the property owner as a baseline measure of property pollution should future pollution disputes arise and will assist the tenant with the insurance costs. Finally, the lease should contain a strong, well-drafted hold-harmless agreement specifically addressing hazardous waste contamination, with covenants that cover both cleanup costs and legal expenses incurred by the owner.

Why Contamination Must Be Reported

A valuable warning sign for landlords is tenant delinquency in rent payments. This may often prove to be more serious than just a collection problem; a failing business may attempt to lower costs by using improper and illegal disposal practices. To properly protect themselves, property owners must increase their vigilance and report discovered tenant contamination not only to the tenant, but also to the proper state and/or federal government agencies. In addition, if pollution cleanup costs are greater than the liquid assets of the tenant's business, tenant bankruptcy may result. When this occurs, property owners may recover little or no reimbursement. Lost rent and costs incurred in hazardous waste removal or containment receive no priority as bankruptcy claims. Some owners have sued to force the bankruptcy trustee to recognize cleanup costs as a "priority administrative expense," which would increase the owner's choices for reimbursement. However, case law reflects that courts have generally rejected this argument.

Small Businesses Often Have Pollution Problems

It is a fallacy to believe that only owners of large industrial properties need to be concerned about hazardous waste. Today, many types of smaller businesses, generally located in stripmalls or neighborhood shopping centers, may also have significant pollution disposal problems. These businesses include print or copying shops, dry cleaners, automobile repair shops and other businesses dealing with hazardous waste. Many of these types of businesses are involved in lease agreements with property owners. The primary risk management tool for the landlord is the lease. Pre-examination investigation, along with the right to inspect and supervise the tenant as regards hazardous waste, when coupled with proper insurance and liability allocation provisions, will help insulate the property owner from liability. Counting on post-release litigation to restore property, utility and value is generally ineffective.