The Subjective Nature Of Phase I Environmental Site Assessments

How Two Separate Reports Reached Different Conclusions On The Same Commercial Property

Phase I environmental site assessments are subjective in nature. I know because I learned it first hand. Let me explain.

About 12 years ago I had a contract to purchase a 54 unit, mixed-use, commercial/residential building. At the request of the mortgage lender I was using, I ordered a phase I environmental site report. I have to admit, I was very new to commercial real estate investment at the time, and I was not familiar at all with what was involved in a phase I. (Actually, twelve to fifteen years ago environmental site assessments were still fairly "new" so I wasn't alone in my ignorance). As part of the investigation, the environmental consultant determined that there had been a gas station located on the property directly to the north of the commercial property I had under contract. And not only had there been a gas station there, one of the gasoline storage tanks had leaked at one point. Further investigation revealed that the site had been remediated (cleaned up) following the spill.

As no physical testing is conducted during phase I environmental site assessments, it is left up to the consultant to make a somewhat "subjective" conclusion as to whether or not she/he feels that any further investigation is warranted, based on the information they gather. A phase II environmental site assessment is recommended only if the consultant determines during the phase I that there exists the potential for contamination. It is during a phase II assessment that physical testing takes place.

Based on the information gathered during the phase I, the consultant's "best guess" was that the risk of contamination from hydrocarbons (gasoline) was negligible. No phase II environmental study was recommended. The mortgage lender was satisfied with this, and therefore, so was I.

Fast-forward ten years.

I was in the process of selling the same commercial real estate property that I had purchased ten years earlier. Nothing had changed in regards to the adjoining property that used to house the gas station, however, after their initial investigation, the purchaser's environmental consultants had recommended moving to a phase II environmental survey.

How could that be? Nothing "significant" had changed in the past 10 years. How could two phase I environmental site assessments, conducted on the same property reach different conclusions?

Well, as I mentioned above, phase I environmental site assessments are subjective. Therefore, depending on the person(s) who undertake the study, the conclusions can differ. Another reason for the different conclusions, and again, I touched on this above, is the time frame. Everyone, including environmental consultants, are much more cautious these days, given the increased liability when it comes to environmental contamination.

Needless to say I was a bit worried. (I think you would have been too if you were in my shoes). If in fact my property had been contaminated by hydrocarbons, the property value would have likely plummeted to zero (I was selling it for close to $3 million) and I would have been faced with a remediation cost that would have easily been in the six figures if not millions. Yes, you could say I was "sweating it" for a few weeks.

The phase II involved drilling several holes along a section of the property line that separated the two properties, gathering water samples from each and then analyzing the samples to test for the presence of hydrocarbons. The cost was in the $12,000 range.

This story does have a "happy" ending. The test results were negative for any traces of hydrocarbons and the deal went through.

One of the things I have learned in my years investing in commercial real estate is to hire professionals, to complete your phase I environmental site assessments for example, but make sure that you understand (at least at a big picture level) and question their work where necessary. No one is going to watch out for your best interest better than you.

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