JUNE 1991 - VOLUME 12 - NUMBER 6
F I N A N C I A L F O L L I E S
Dodging Toxic Liability
by Jim Donahue
While financial institutions are not commonly considered a hazard to the environment, U.S. banks are clamoring for relief from environmental regulations which they claim are threatening their viability. In response, Congress is considering legislation, sponsored by Senator Jake Garn, R-Utah, and Representative John LaFalce, D-NY, which would exempt banks and other lending institutions from federal Superfund requirements that property owners pay for the cleanup of toxic waste.
The proposed legislation is intended to protect lenders who become owners of contaminated property when a business to which they loan money defaults or when the lender forecloses on its loans. Most lenders only hold a security interest in property and do not participate in its management; under existing law, they are generally not required to pay for environmental cleanups. Lenders are also exempt under current Superfund law if it is proven that an appropriate environmental audit of the business was conducted by the lender before the loans were made and in cases where the lender "did not know and had no reason to know" that toxic substances had been released on the property.
In other instances, however, when the bank or other loan holder takes possession of a contaminated property, it is currently responsible for cleaning up the hazards. The proposed legislation would release lenders from this liability, even if they were aware that their loans were financing hazardous waste- producing operations that posed a threat to human health. Since the property would still have to be cleaned up, this change would effectively force taxpayers to finance the cleanup, regardless of a lender's culpability in financing the contaminated property. Moreover, lenders could subsequently sell the cleaned-up property at a profit, without reimbursing the government for cleanup costs.
Not surprisingly, the principal advocates of the legislation are Congressional lobbying organizations such as the American Bankers Association and the Independent Bankers Association of America. The Bush administration is also strongly supportive.
The call for the legislation comes in response to recent court decisions that held lenders liable for cleanup costs. Recently, the Supreme Court refused to review a 1990 decision by the 11th Circuit Court of Appeals in Atlanta that found Fleet Factors Corporation, a commercial financing firm, liable for the cost of cleaning up toxic waste created by a firm to which it loaned money. The Circuit Court stated that a lender may be held liable for cleanup costs if it "participat[es] in the financial management of a facility to a degree indicating a capacity to influence the corporation's treatment of hazardous waste. It is not necessary for the secured creditor actually to involve itself in the day-to-day operations of the facility in order to be liable."
A cover for deregulation
Immediately after the court's decision, the banking industry launched an intense lobbying campaign to be exempted completely from Superfund requirements. The banks claim that if they are not granted the exemption, small businesses will not be able to obtain loans. Small businesses primarily use property as collateral, and the banks say creditors are wary of acquiring property which might be contaminated.
Speaking on behalf of the American Bankers Association at a Congressional hearing, Charles Mitschow, regional president of Marine Midland Bank in Buffalo, said, "Unless some changes are made to current law, major segments of the business community, particularly small business, will not be able to receive adequate financing when purchasing property which presents environmental risks or when using such property as collateral."
Representative LaFalce expressed similar concerns. "[W]hat we are seeing across the country," says LaFalce, whose Congressional district includes the notorious Love Canal, "is that many lenders have stopped making secured loans to businesses that either use hazardous materials or are located in areas of possible hazardous waste contamination." He added, "The real loser here is the small business community."
William Bitner, president of the New York State Bankers Association, testified that the current Superfund law "has caused banks, nationally, to consider many small business loans that even hint of Superfund characteristics as being undesirable." But his testimony offered only one example where a bank refused to lend money to a small business that had potential Superfund problems. Bitner's remaining testimony dealt with the "inequitable burden" that Superfund places on banks, not small businesses, and how environmental audits cut into banking profits.
Critics say that the concern for small business is merely a new cover for the banks' old objectives: less regulation and more governmental protection. Andrew Buchsbaum of the Washington, D.C.-based U.S. Public Interest Research Group (U.S. PIRG) says the banks' claims that loans to business are drying up "are an attempt by the lending industry to frighten small businesses, larger industries and Congress" into granting lenders an exemption from the Superfund law.
The system at work
Environmentalists say the financial institutions' reluctance to advance credit to environmentally destructive corporations diminishes the potential for additional Superfund cleanup sites and shows the law is working. Moreover, it makes businesses, including small businesses, more diligent on environmental matters when seeking loans from liability-cautious lenders.
In a group letter to members of Congress in February, organizations including Greenpeace, the Sierra Club and U.S. PIRG stated, "The current Superfund liability scheme for lending institutions is working. By their own testimony, lenders are refusing to lend money to business where there is significant risk of environmental contamination--contamination that could cost millions of dollars to clean up."
Bill Roberts of the Environmental Defense Fund (EDF) says, "There is simply no reason to use the scarce resources in state and federal Superfunds, which are designed to be used only as a last resort, to bail out banks and savings and loans whose management activities or underwriting practices could have prevented the contamination in the first place."
Despite the banking industry's claim that the current law places an undue burden on lenders, a survey by Multinational Monitor shows the industry has not claimed any significant legal environmental liabilities in its disclosure of assets and liabilities mandated by the Securities and Exchange Commission (SEC). The Monitor surveyed the most recent 10-K forms submitted to the SEC by the 20 largest bank holding companies ranked by total assets. All publicly traded companies are required by law to disclose significant legal liabilities on the 10-K form. None of the surveyed bank holding companies reported legal liabilities resulting from environmental problems.
The Monitor also examined the 10-K reports of the six largest bank holding companies operating in states with the largest number of Superfund cleanup sites. None of these banks reported environmental liabilities.
The Environmental Protection Agency (EPA) confirms the lack of any serious environmental problems in the banking industry. In 1990, the EPA reported that it identified only 34 federal Superfund cases involving lenders. Of the more than 30,000 lenders operating in the United States, the EPA reported that only six have contributed financially to Superfund cleanups. In addition, the EPA has never identified the Federal Deposit Insurance Corporation or the Resolution Trust Corporation (RTC)--two government agencies that own large amounts of property taken over from insolvent financial institutions--as a responsible party in any Superfund actions.
In a written statement to the Senate Banking Committee in 1990, the Independent Bankers Association of America admitted that the "extent of liability is both unknown and unquantifiable." The lack of empirical data to support the banks' claims, however, did not prevent the organization from asserting that environmental liability is "having a dramatic effect not only on the economic development of many communities and states, but also on the very survival of some lending institutions, and by implication, on the safety and soundness of the financial system itself."
Although the lender-liability battle continues in Congress, the Environmental Protection Agency has already proposed a rule that restricts the federal government's ability to sue lenders for cleanup costs. The rule, which does not apply to state and local environmental agencies, is similar to the legislation in that it eliminates the liability imposed on banks that intentionally ignore environmental problems associated with loans. Critics point out that the rule calls on taxpayers to act as the ultimate insurer for reckless banking practices that could have been prevented.
Although the debate is currently concentrated on the liability of lenders, environmentalists say the legislation could open the door for non-lender businesses to become exempt as well. EDF's Roberts says, "polluting firms will have a compelling incentive to find ways to structure ownership arrangements to avoid liability."
For example, the bill introduced by Representative LaFalce protects mortgage lenders and insured depository institutions from liability. Because LaFalce's bill loosely defines "mortgage lenders" and "insured depository institutions," Roberts says that "many firms will create ownership schemes to take advantage of [the legislation's] limitation on liability."
It is quite possible, under the proposed legislation, that corporations with poor environmental records could establish affiliate credit companies that make home equity loans. According to Roberts, the corporation could then be "transferred to a trust, in which both the beneficiary and trustee are the credit company." As a result, the federal government would not be able to recover the costs of cleaning up contaminated sites because the credit company, which would control the corporation, would qualify as a mortgage lender.
Corporate polluters could also take advantage of an exemption accorded to first buyers of property owned by the RTC. Under LaFalce's bill, first buyers of property owned by the agency would be exempt from all environmental liability. Ed Mierzwinski of U.S. PIRG says corporations could transfer all of their toxic waste to property purchased from the RTC and remain exempt from environmental liability.
Efforts to exempt lenders from environmental liability will be an uphill fight in Congress. Senator Frank Lautenburg, D-NJ, chairman of the Senate Subcommittee on Superfund, Ocean and Water Protection strongly opposes special exemptions for lenders. But the Bush administration and the banking industry are pushing hard for further deregulation of banks. In the end, that pressure may overwhelm the opposition to a taxpayer financed, environmental bailout for lenders.