Organizations in the real estate industry can face a wide range of environmental risks. Modern developments may sit on top of historic pollution from previous industrial use; landlords can find themselves liable for issues caused by their tenants. Managing such risks effectively is therefore crucial.
First, it is important to recognize the different types of pollution that could pose problems in the real estate sector. These include:
- Soil pollution – this may be gradual, occurring because of buried waste, poor storage of raw materials or leaking pipelines or storage tanks; there could also be a sudden incident.
- Groundwater pollution – this is often caused by long-term soil pollution that leaches into groundwater aquifers; problems with drainage systems can also lead to pollution.
- Surface water pollution – poor water treatment practises by commercial property tenants can lead to discharges of polluted water from drainage systems into rivers.
- Air pollution – many industrial activities release harmful gases that could escape into the atmosphere, if a filtration system fails or an incident occurs; indoor air pollution caused by mould, asbestos or microbial matter can also be an issue for real estate businesses, with significant third-party claims for bodily injury and property damage.
- Historic pollution – many sites are contaminated by work done in the past; any projects undertaken by a new owner could release this pollution.
In practice, real estate businesses need to think about both existing pollution risks and operational vulnerabilities.
In the first of these categories, the reality is that commercial buildings and development projects can often be unknowingly sited on top of contamination in soils or groundwater that dates from legacy industrial use.
This pollution may be discovered during a redevelopment or general maintenance work; it could also be found by third parties including neighbouring businesses, contractors and local authorities.
As for operational risks, landlords whose tenants become insolvent may find themselves liable for pollution caused by these businesses' activities. Understanding how the property is being used – and assessing the potential environmental risk of such usage – is therefore vital.
How to mitigate and minimize environmental risk
Real estate businesses need strong systems and controls in place to deal with the environmental risks they may face at all the properties they own and manage.
That starts with thorough due diligence processes for acquisitions of all new properties and sites.
Even assets considered low risk – office buildings, for example – may occupy sites that were industrial in the past. It's important to identify all known conditions and to understand what remediation is planned, if any.
Acquirers should check they understand the regulatory position in relation to any contamination identified. And if a change of use is planned, that may have implications too.
Risk management also needs to be ongoing. Robust environmental management plans set out how each of the business's properties could impact the environment – and how these impacts will be mitigated.
Waste management plans set out clear processes for dealing with waste, including air and water emissions. Long-term monitoring may also be required – ongoing testing of groundwater, for example.
The role of insurance
In practice, it is impossible to remove all risk entirely. Insurance therefore has a crucial role to play in helping real estate businesses to manage their exposures.
Traditional general liability and property policies may provide some cover, but this is typically limited only to damage caused by sudden and accidental pollution.
Importantly, EIL can cover pollution no matter how long ago it was caused or how gradual its effect has been.
To close the gaps in such policies, growing numbers of real estate businesses are taking out environmental impairment liability (EIL) insurance.
Importantly, EIL can cover pollution no matter how long ago it was caused or how gradual its effect has been.
Such cover extends to both first- and third-party costs.
Here are some potential liabilities and costs that may be covered:
- Liability to third parties for:
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- Environmental damage
- Bodily injury
- Third-party property damage caused by:
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- Sudden and accidental pollution
- Gradual pollution
- First-party legal defence costs in case of legal action
- Statutory clean-up costs if:
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- An environmental agency conducts work on the policyholder's behalf
- The agency sends the bill to the policyholder
- Legal defence costs if the policyholder is prosecuted
- Director and officer liability for environmental breaches
EIL can also help with the cost of prevention and recovery.
For example, it covers the cost of crisis management resources, such as public relations advice, to help deal with reputational damage. It may pay for pre-incident loss mitigation if there is an immediate risk of environmental damage from pollution. It can cover site investigations and ongoing groundwater monitoring.
Restoration of biodiversity, and soil and groundwater remediation work are also in-scope. And policyholders may be able to claim for business interruption too.
There are two main types of EIL cover. Premises pollution liability (PPL) insurance covers the sites that the policyholder owns or operates. Contractors pollution liability (CPL) insurance covers work done on construction sites by contractors – during real estate development projects, for example.
How EIL can help real estate businesses
EIL policies can provide real estate businesses with a broad range of benefits in addition to protection against the cost of pollution claims and remediation actions. For example, the insurance may help the business to secure finance from banks and other funders for property deals and construction projects.
Cover can support the balance sheet, enabling real estate businesses to transfer reserves against unknown environmental costs off these accounts.
EIL cover can also help real estate businesses minimize reputational damage and cover their exposure to legal costs.
Importantly, EIL can also help real estate businesses to deliver their environmental, social and governance (ESG) strategies.
The cover can be an integral element of their approach to managing both immediate and long-term environmental impacts.
For example, EIL policies can cover climate risks, such as the impacts of air emissions, which are typically excluded from traditional general liability policies.
EIL also covers biodiversity damage, also routinely excluded from other insurance. More broadly, the cover can help real estate businesses to understand and report on their environmental risks – and to demonstrate that they are managing their ESG exposures effectively.
How WTW can help
While EIL policies have now been available for more than 20 years, there are still some misconceptions about the cover. Real estate businesses often assume the insurance will be too costly, but increasing competition in the market is having a significant impact.
In other cases, organizations in the sector are underestimating their risk exposures – particularly where they may have yet to discover historic pollution – and therefore deciding they don't need cover.
We have extensive experience of helping clients arrange EIL, liaising with underwriters to help clients assess the cost of insurance and to buy appropriate cover. This insurance has often proved very valuable.
In one recent case, for example, a real estate business leased an industrial unit to a powder coating company that subsequently went into liquidation. During a refurbishment of the unit, it was discovered that chlorinated solvents used by the powder coating company had leaked into the ground through a cracked concrete floor.
The real estate business's EIL policy paid for soil investigations and remediation work costing £1 million, and also provided $500,000 for loss of income during the period when the property could not be let.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
