In the Spotlight: Remediation Provisions in the Era of Deed Restrictions

The ever-evolving nature of environmental law often presents landlords with a minefield of problems in their ability to pass cleanup costs onto their tenants. Landlords can and should take special precautions when drafting environmental remediation provisions in their leases to best position themselves in this uncertain climate. Ineffective drafting may result in court-mandated cleanups by tenants that meet standards appropriate only for the existing use of a site, effectively foreclosing a future change of use of the landlord's property that will allow the landlord to maximize the value of its property. Likewise, overly strict environmental provisions may be largely ignored by the courts. This article provides drafting strategies that help to avoid these results.

Remediation Obligations

Many leases vaguely indicate that a tenant must remediate
a leased property to the extent required by applicable law in the event the tenant has caused hazardous substances to be released at the site. However, what does this remediation obligation entail? Does the cleanup need to meet the lawful standards applicable only to the then existing use of the property? For instance, does an industrial tenant need to remediate to industrial standards, or can a landlord use this type of lease provision to require a cleanup to the most stringent lawful standards? Does a vague remediation requirement ultimately inure to the landlord's benefit in the final analysis? Finally, is the language of the lease ever relevant in the event that a landlord can withhold its consent to a deed restriction on its property, thereby effectively requiring a tenant to cleanup the property to the most stringent standards?

The issue of whether a landlord can require a tenant to remediate industrial property to a residential use standard is often resolved in court. While few cases have discussed this issue, the cases on point are usually sympathetic to the tenant.

Cases in Point

In SDC/Pullman Partners v. Tolo Inc., 60 Cal. App. 37 4th (4th Dist. 1997), the parties' lease required the tenant of an industrial property to take all “necessary and appropriate” actions for cleanup. The landlord wanted trace amounts of a chemical to be fully remediated. The landlord did not prevail. The court emphasized that the lease provisions suggested that the landlord wanted to be protected from actual remediation liability, while the landlord was also trying to have all traces of a chemical removed to protect itself against potential liability. Because the property had been historically used for industrial purposes, with the industrial use dating from prior to the landlord's purchase of the property, the court held that the tenant was not responsible for the level of cleanup that the owner preferred.

Several CERCLA cases are also instructive. CERCLA allows an owner to seek “necessary” cleanup expenditures from responsible parties, such as prior owners/operators. Interpreting the word “necessary” narrowly, the Seventh Circuit held that it served as a “check on the temptation to improve one's property and charge the expense of improvement to someone else.” G.J. Leasing Co. v. Union Elec. Co., 54 F.3d 379, 386 (7th Cir. 1995). The court hypothesized that an owner could otherwise turn the discovery of a small amount of a toxic substance on the property into an excuse to cause a non-owner to “incur enormous costs to eliminate the contamination utterly, charge those costs to whoever was responsible for the current very low level of contamination, and then convert the building to a hospital, day care center, or dairy products plant,” thereby upgrading the property's value. In CERCLA cases, therefore, courts appear reluctant to allow owners to upgrade their property's usefulness at someone else's expense.

Nonetheless, in Interfaith Community Organization v. Honeywell Intern., Inc., the court reached a different result due to the specific language of a state statute. In that case, the property owner entered into a license agreement that provided a former owner with access to the property in order to fulfill contractual remediation obligations that indicated that the property was to be remediated to the extent required by state law. 263 F.Supp.2d 796, 825 (D.N.J. 2003), aff'd, 399 F.3d 248, (3d Cir. 2005), cert. denied, 545 U.S. 1129 (2005). The District Court of New Jersey interpreted state law to require cleanup to residential standards, unless the landlord agreed to deed restrictions, limiting the future uses of the property, which of course, the landlord declined to do. Accordingly, the former owner, who was obligated to remediate the premises, had to achieve the state's highest remediation standard of residential use, because the court refused to “dictate as to how [the owner] should ultimately use the property.” Although this case did not arise in the landlord/tenant context, its rationale likely applies. In any event, landlords should specifically provide in their leases that no deed or use restrictions may be placed upon a property incidental to fulfillment of a tenant's remediation obligations.

The remediation statutes of some states clearly favor landlords, also helping to ameliorate unspecific lease language. For instance, New Jersey's Remediation Act expressly forbids a state agency from imposing a deed restriction over an owner's objection. N.J. STAT ANN. ' 58:10b-12(h)(3) (2008). Both federal and state courts have strictly enforced these provisions. As indicated above, in Honeywell, the court required the former owner to achieve a residential standard in light of the current owner's refusal to record a deed restriction. A similar result was rendered in E.I. du Pont de Nemours and Company v. State Department of Environmental Protection and Energy, 661 A.2d 1314,1332 (N.J. Super. Ct. App. Div. 1995) where the court found that if an owner refuses to consent to a deed restriction, the Department of Environmental Protection must require nothing less than a residential soil remediation standard.

What a Landlord Should Do

A landlord should specifically require in its lease that the tenant achieve the highest remediation standard recognized by state law. This approach to drafting carries various advantages. First, when the lease specifies the cleanup standard recognized by state law, a court is unlikely to interpret the lease to require a cleanup different from the one intended. Furthermore, a court is unlikely to find that a lease is unduly stringent when the specified cleanup was established by the state. If the court interpreted such lease language as unduly stringent, an argument could be made that the court is acting in a legislative capacity by rejecting state standards that have been adopted by the state legislature.

Landlords should, however, resist the temptation to be overzealous, requiring the removal of every particle of hazardous material from the property. Despite a lease's precise cleanup stipulations, some courts simply refuse to impose such a requirement, viewing the same to be overreaching on the part of the landlord. The California Court of Appeals' opinion in SDC/Pullman is again instructive. In that case, the landlord drafted a “toxic substance clause” that provided for a number of strict remediation requirements. 70 Cal.Rptr.2d 62, 64 (Cal. Ct. App. 1998). Among other provisions, the lease stated that if “any” of the specified wastes were found on the premises as a result of the tenant's occupancy, then the tenant would “take all necessary and appropriate actions and shall spend all necessary sums” to remove them. In addition, the tenant was required to comply with all applicable state and federal environmental laws. As indicated above, upon examining the terms and circumstances surrounding the clause, the court found that it was only intended to protect the landlord against actual liability. The court found no reason to “require the tenant to spend potentially enormous sums to extract trace and de minimis amounts of certain molecules to avoid purely speculative environmental liability.”

In its analysis, the court found several reasons to avoid such an “extreme and absolutist” interpretation. First, such a reading was inconsistent with the remainder of the lease. After all, the toxic substance clause was premised upon the tenant's use of substances hazardous to the environment. Accordingly, this presumption was wholly inconsistent with an interpretation that would require the tenant to remove “any” substances on the premises, regardless of the toxicity to present users of the property. Furthermore, such a reading was unreasonable given the nature of the lease. Simply, “this was not a residential lease.” The landlord knew that the tenant was an aerospace manufacturer that “could not conduct even the cleanest operations without some use of toxic substances.” The court found that tenant deserved “a little slack” insofar as the contemplated substances were concerned. Finally, such a reading was unreasonable from the standpoint of “actual hazard or toxicity.” Many of the toxic substances listed in the lease ' zinc, for example ' are nontoxic in de minimis quantities. Thus, an absolutist reading would entail liability for “wastes” even when present in near background levels, and where the presence of such substances would be acceptable even in residential settings. The court felt that the landlord's reasoning was “ludicrous.” It would require the court to regard a “buried bag of silver coins” as a toxic substance. Under such standards, “there probably isn't a person in the United States ' at least over age 10 ' who could not in theory be tagged for some sort of cleanup cost somewhere.”

In light of this analysis, one can derive several useful principles from SDC/Pullman. Most importantly, a landlord is better served by requiring cleanup to the highest standard recognized by state statute, and not, as was attempted in SDC/Pullman, removal of “any” toxic substance. Moreover, an owner of industrial property who is contemplating future residential uses must specify such an eventuality in its lease with a tenant and prohibit deed restrictions. Otherwise, one risks a court's rejection of lease provisions that are stringent and unreasonable. As in SDC/Pullman, if a court thinks that a landlord is overreaching, it is likely to rule against the landlord and infer that industrial property will continue to function as industrial property.

Paul R. Diamond, a member of this newsletter's Board of Editors, is a Partner in the real estate practice of Wildman, Harrold, Allen & Dixon LLP (Chicago) and can be reached at [email protected] or 312-201-2278. Jeff Stevenson was a 2009 summer associate at Wildman Harrold and is in his third year of law school at Washington University (St. Louis).

The ever-evolving nature of environmental law often presents landlords with a minefield of problems in their ability to pass cleanup costs onto their tenants. Landlords can and should take special precautions when drafting environmental remediation provisions in their leases to best position themselves in this uncertain climate. Ineffective drafting may result in court-mandated cleanups by tenants that meet standards appropriate only for the existing use of a site, effectively foreclosing a future change of use of the landlord's property that will allow the landlord to maximize the value of its property. Likewise, overly strict environmental provisions may be largely ignored by the courts. This article provides drafting strategies that help to avoid these results.

Remediation Obligations

Many leases vaguely indicate that a tenant must remediate
a leased property to the extent required by applicable law in the event the tenant has caused hazardous substances to be released at the site. However, what does this remediation obligation entail? Does the cleanup need to meet the lawful standards applicable only to the then existing use of the property? For instance, does an industrial tenant need to remediate to industrial standards, or can a landlord use this type of lease provision to require a cleanup to the most stringent lawful standards? Does a vague remediation requirement ultimately inure to the landlord's benefit in the final analysis? Finally, is the language of the lease ever relevant in the event that a landlord can withhold its consent to a deed restriction on its property, thereby effectively requiring a tenant to cleanup the property to the most stringent standards?

The issue of whether a landlord can require a tenant to remediate industrial property to a residential use standard is often resolved in court. While few cases have discussed this issue, the cases on point are usually sympathetic to the tenant.

Cases in Point

In SDC/Pullman Partners v. Tolo Inc. , 60 Cal. App. 37 4th (4th Dist. 1997), the parties' lease required the tenant of an industrial property to take all “necessary and appropriate” actions for cleanup. The landlord wanted trace amounts of a chemical to be fully remediated. The landlord did not prevail. The court emphasized that the lease provisions suggested that the landlord wanted to be protected from actual remediation liability, while the landlord was also trying to have all traces of a chemical removed to protect itself against potential liability. Because the property had been historically used for industrial purposes, with the industrial use dating from prior to the landlord's purchase of the property, the court held that the tenant was not responsible for the level of cleanup that the owner preferred.

Several CERCLA cases are also instructive. CERCLA allows an owner to seek “necessary” cleanup expenditures from responsible parties, such as prior owners/operators. Interpreting the word “necessary” narrowly, the Seventh Circuit held that it served as a “check on the temptation to improve one's property and charge the expense of improvement to someone else.” G.J. Leasing Co. v. Union Elec. Co. , 54 F.3d 379, 386 (7th Cir. 1995). The court hypothesized that an owner could otherwise turn the discovery of a small amount of a toxic substance on the property into an excuse to cause a non-owner to “incur enormous costs to eliminate the contamination utterly, charge those costs to whoever was responsible for the current very low level of contamination, and then convert the building to a hospital, day care center, or dairy products plant,” thereby upgrading the property's value. In CERCLA cases, therefore, courts appear reluctant to allow owners to upgrade their property's usefulness at someone else's expense.

Nonetheless, in Interfaith Community Organization v. Honeywell Intern., Inc., the court reached a different result due to the specific language of a state statute. In that case, the property owner entered into a license agreement that provided a former owner with access to the property in order to fulfill contractual remediation obligations that indicated that the property was to be remediated to the extent required by state law. 263 F.Supp.2d 796, 825 (D.N.J. 2003), aff'd, 399 F.3d 248, (3d Cir. 2005), cert. denied, 545 U.S. 1129 (2005). The District Court of New Jersey interpreted state law to require cleanup to residential standards, unless the landlord agreed to deed restrictions, limiting the future uses of the property, which of course, the landlord declined to do. Accordingly, the former owner, who was obligated to remediate the premises, had to achieve the state's highest remediation standard of residential use, because the court refused to “dictate as to how [the owner] should ultimately use the property.” Although this case did not arise in the landlord/tenant context, its rationale likely applies. In any event, landlords should specifically provide in their leases that no deed or use restrictions may be placed upon a property incidental to fulfillment of a tenant's remediation obligations.

The remediation statutes of some states clearly favor landlords, also helping to ameliorate unspecific lease language. For instance, New Jersey's Remediation Act expressly forbids a state agency from imposing a deed restriction over an owner's objection. N.J. STAT ANN. ' 58:10b-12(h)(3) (2008). Both federal and state courts have strictly enforced these provisions. As indicated above, in Honeywell, the court required the former owner to achieve a residential standard in light of the current owner's refusal to record a deed restriction. A similar result was rendered in E.I. du Pont de Nemours and Company v. State Department of Environmental Protection and Energy , 661 A.2d 1314,1332 (N.J. Super. Ct. App. Div. 1995) where the court found that if an owner refuses to consent to a deed restriction, the Department of Environmental Protection must require nothing less than a residential soil remediation standard.

What a Landlord Should Do

A landlord should specifically require in its lease that the tenant achieve the highest remediation standard recognized by state law. This approach to drafting carries various advantages. First, when the lease specifies the cleanup standard recognized by state law, a court is unlikely to interpret the lease to require a cleanup different from the one intended. Furthermore, a court is unlikely to find that a lease is unduly stringent when the specified cleanup was established by the state. If the court interpreted such lease language as unduly stringent, an argument could be made that the court is acting in a legislative capacity by rejecting state standards that have been adopted by the state legislature.

Landlords should, however, resist the temptation to be overzealous, requiring the removal of every particle of hazardous material from the property. Despite a lease's precise cleanup stipulations, some courts simply refuse to impose such a requirement, viewing the same to be overreaching on the part of the landlord. The California Court of Appeals' opinion in SDC/Pullman is again instructive. In that case, the landlord drafted a “toxic substance clause” that provided for a number of strict remediation requirements. 70 Cal.Rptr.2d 62, 64 (Cal. Ct. App. 1998). Among other provisions, the lease stated that if “any” of the specified wastes were found on the premises as a result of the tenant's occupancy, then the tenant would “take all necessary and appropriate actions and shall spend all necessary sums” to remove them. In addition, the tenant was required to comply with all applicable state and federal environmental laws. As indicated above, upon examining the terms and circumstances surrounding the clause, the court found that it was only intended to protect the landlord against actual liability. The court found no reason to “require the tenant to spend potentially enormous sums to extract trace and de minimis amounts of certain molecules to avoid purely speculative environmental liability.”

In its analysis, the court found several reasons to avoid such an “extreme and absolutist” interpretation. First, such a reading was inconsistent with the remainder of the lease. After all, the toxic substance clause was premised upon the tenant's use of substances hazardous to the environment. Accordingly, this presumption was wholly inconsistent with an interpretation that would require the tenant to remove “any” substances on the premises, regardless of the toxicity to present users of the property. Furthermore, such a reading was unreasonable given the nature of the lease. Simply, “this was not a residential lease.” The landlord knew that the tenant was an aerospace manufacturer that “could not conduct even the cleanest operations without some use of toxic substances.” The court found that tenant deserved “a little slack” insofar as the contemplated substances were concerned. Finally, such a reading was unreasonable from the standpoint of “actual hazard or toxicity.” Many of the toxic substances listed in the lease ' zinc, for example ' are nontoxic in de minimis quantities. Thus, an absolutist reading would entail liability for “wastes” even when present in near background levels, and where the presence of such substances would be acceptable even in residential settings. The court felt that the landlord's reasoning was “ludicrous.” It would require the court to regard a “buried bag of silver coins” as a toxic substance. Under such standards, “there probably isn't a person in the United States ' at least over age 10 ' who could not in theory be tagged for some sort of cleanup cost somewhere.”

In light of this analysis, one can derive several useful principles from SDC/Pullman. Most importantly, a landlord is better served by requiring cleanup to the highest standard recognized by state statute, and not, as was attempted in SDC/Pullman, removal of “any” toxic substance. Moreover, an owner of industrial property who is contemplating future residential uses must specify such an eventuality in its lease with a tenant and prohibit deed restrictions. Otherwise, one risks a court's rejection of lease provisions that are stringent and unreasonable. As in SDC/Pullman, if a court thinks that a landlord is overreaching, it is likely to rule against the landlord and infer that industrial property will continue to function as industrial property.

Paul R. Diamond, a member of this newsletter's Board of Editors, is a Partner in the real estate practice of Wildman, Harrold, Allen & Dixon LLP (Chicago) and can be reached at [email protected] or 312-201-2278. Jeff Stevenson was a 2009 summer associate at Wildman Harrold and is in his third year of law school at Washington University (St. Louis).