Environmental issues in commercial real estate

Environmental issues regarding real estate may seem commonplace these days, but the implications have real-world consequences for the uninformed.

Imagine you’ve bought your first piece of income-producing property. After several months, you discover the prior owner dumped contaminants out the back door, and now the Environmental Protection Agency wants you to clean up the property. It may sound farfetched, but this is a routine occurrence throughout Illinois.

Federal and state laws impose liability for environmental remediation costs on current and, in many instances, prior landowners. Depending on the facts, a party may be held responsible for all or a substantial portion of remediation costs, even if that party did not cause the contamination. It’s called “cradle to grave” liability.

There is a common way to escape such liability. Both federal and state law provide the “bona fide prospective purchaser” of land with immunity from that liability. If this standard is met, the property owner cannot be held liable for past contamination, only for “new contamination.” How, then, does one go about establishing him or herself as a “bona fide prospective purchaser?”

The usual way is to undertake an “all appropriate inquiries” analysis. This generally involves employing an environmental consultant to conduct what is known as a Phase I. Under Illinois law, a Phase I assessment that indicates property is clean is the type of evidence used to establish the innocent purchaser defense. Federal law, although not stating it in so many words, essentially says the same thing.

A Phase I provides a historical review and reconnaissance of a property to identify recognized environmental conditions. Those conditions may be past or present and may be located on the property or adjacent to it. The recognized environmental conditions are then evaluated with regard to potential environmental impact to the property. A Phase I seeks to balance the cost of a site assessment with the objective of reducing uncertainty. Phase I assessments typically include a review of various public records, a site “reconnaissance” and personal interviews. They can be performed only by qualified environmental consultants, and the costs are generally reasonable for the protection they afford.

Phase I assessments are not guarantees the land is clean. Rather, they are designed to satisfy the innocent purchaser defense and to reduce potential uncertainties. If a Phase I raises any red flags, additional investigation is often advisable and frequently necessary, but not every recognized environmental condition automatically requires additional due diligence.

This further investigation usually involves the Phase II inspection. A Phase II, building on a Phase I, includes testing the soil and groundwater for contaminants. A Phase II that confirms the absence of significant contamination can substantially reduce environmental risk and may strengthen a purchaser’s ability to demonstrate compliance with bona fide purchaser defenses.

But what if contamination is found on the property you are considering purchasing?

Beyond establishing the innocent purchaser defense to liability, there are additional reasons to incur the time and expense of environmental due diligence. The smart property purchaser includes an “escape clause” in the sales contract so he or she can walk away from the deal if contamination is found. Absent such a clause, the law may well require the buyer to close irrespective of the contamination.

There are other reasons to go through this environmental due diligence. Assuming you are financing your purchase, your bank will ask about the proposed property’s environmental status. Banks are generally excluded from liability if they ever have to take the title to a property from a delinquent borrower. The real issue, however, is that a bank will have a difficult, if not impossible, time selling environmentally contaminated land to recoup its debt. Accordingly, depending on the nature of the transaction, many banks require at least a Phase I before making a mortgage loan on any significant purchase.

Moreover, even if no remediation is required and the contaminants do not affect your proposed property use, the very presence of contamination might stigmatize the property in the eyes of any future purchasers, thereby reducing the property’s potential sales price. Perhaps that is a risk you are willing to take, but environmental due diligence can let you intelligently assess the risk.

And if you think you can ignore environmental issues and rely on your insurance to protect you, you best think again. Virtually without exception, your insurance will not provide coverage. Most all insurance now includes the so-called “absolute pollution exclusion.” Due to this provision, interpreted by Illinois courts in the insurance companies’ favor, and for many other reasons, the chance of collecting on any insurance policy is small enough to be non-existent.

Given the enormous potential liabilities associated with environmental contamination, as well as the uncertainty associated with remediation costs, proper environmental due diligence should become an integral part of every transaction. As with so many other situations, forewarned is truly forearmed.

This article appears in August SBJ 2026.

Environmental issues in commercial real estate

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