Lenders, Trustees, and Bankruptcy G. Van Velsor Wolf Jr. * Snell & Wilmer L.L.P., Phoenix

Transcription

1 Lenders, Trustees, and Bankruptcy G. Van Velsor Wolf Jr. * Snell & Wilmer L.L.P., Phoenix I. CERCLA LIABILITY OF LENDERS A. Statutory Basis of Exemption from Owner or Operator Liability : Original Secured Lender Exemption CERCLA 101(20)(A), 42 U.S.C. 9601(20)(A) a. Owner or operator... does not include a person, who, without participating in the management of a... facility, holds indicia of ownership primarily to protect his security interest in the... facility. b. No guidance on what is a holder of indicia of ownership... c. No guidance on what is participation in management d. No guidance on what is to protect [a] security interest : Asset Conservation, Lender Liability and Deposit Insurance Protection Act as part of the Budget Reconciliation Act of 1996; amended CERCLA 101(20), 42 U.S.C. 9601(20) a. Bankers used leverage in budget dispute b. Retroactively validated the 1992 EPA final rule (discussed infra) c. Holder is a person who maintains indicia of ownership primarily to protect a security interest, such as a loan originator; a successor-in-interest or subsequent purchaser of the security interest on the secondary market; a guarantor of an obligation, surety, or any other person who holds ownership indicia primarily to protect a security interest; or a receiver or other person who acts on behalf or for the benefit of a holder. d. Primarily to protect a security interest means the holder s indicia of ownership are held primarily for the purpose of securing payment of performance of an obligation. Can be one of a broad * Adrian N. Hansen, an associate in the Environment, Natural Resources, and Energy practice group at Snell & Wilmer LLP, Phoenix, assisted in updating these materials. Copyright Snell & Wilmer October 2002

2 B. Administrative Response spectrum of financial arrangements but not holding for investment purposes (cf. Maryland Bank & Trust, discussed infra). e. Participation in management (1) means actual participation in the management or responsibility for day-to-day operations (2) does not include the mere capacity to influence or ability to influence, or the unexercised right to control facility operations (cf. Fleet Factors and Bergsoe, discussed infra). f. Actions that are not participation: (1) Failure to conduct or conducting pre-loan inspection (not a prerequisite for the exemption) (2) Policing the property or compelling the borrower to inspect or clean up the property or comply with other environmental laws before making the loan or during the term of the security interest (3) Taking action to prevent, cure or mitigate a default or preserve or prevent the diminution in the security s value. Examples include, but are not limited to, restructuring or renegotiating the terms of the security interest; requiring payment of additional rent or interest; exercising forbearance; requiring or exercising rights pursuant to an assignment of accounts or other amount owing to an obligor; requiring or exercising rights pursuant to an escrow agreement pertaining to amounts owing to an obligor; providing specific or general financial or other advice, suggestions, counseling, or guidance; and exercising any right or remedy the holder is entitled to by law or under any warranties, covenants, conditions, representations, or promises from the borrower. (4) Foreclosure by acquiring title or possession, as long as divest property in a reasonably expeditious manner, using whatever commercially reasonable means are relevant or appropriate, e.g., list within 12 months and accept any offer of fair consideration EPA Preamble & Regulations 40 C.F.R. subpart L et seq., 57 Fed. Reg (4/29/92)

3 a. Fleet Factors, discussed infra, galvanized the financial community, and EPA responded by promulgating an amendment to the National Contingency Plan interpreting the secured creditor liability exemption in a manner that provided a comprehensive and detailed road-map of the environmental liability pot-holes lenders will face and how to avoid them. b. Invalidated in Kelley, discussed infra EPA Policy Applying 1992 Regulations to Interpret 1996 ACA Memorandum - Office of Enforcement and Compliance Assurance (6/3097) C. Notable Court Decisions a. Stating the 1996 Asset Conservation, Lender Liability and Deposit Insurance Protection Act uses language very similar to the language of the 1992 regulations, regarding private lenders in CERCLA and LUST situations. b. EPA intends to treat those portions of the Rule and preamble as guidance in interpreting the exemption. 1. U.S. v. Mirable, 15 E.L.R (E. D. Pa. 1985), holding actions of creditor in purchasing the property at the foreclosure sale and taking routine steps to secure the property against further depreciation (including dispensing advice to the facility operators) did not preclude it from qualifying for the secured lender exemption. The court found there was a genuine issue of fact as to whether creditor participated in the day-to-day operation of the facility and was overly entangled in the affairs of the debtor. 2. U.S. v. Maryland Bank & Trust, 632 F. Supp. 573 (D. Md. 1986), holding secured lender exemption covered only those persons who, at the time of the clean-up, hold indicia of ownership to protect a then-held security interest in the land, and that such indicia terminates at the foreclosure sale and ripens into full title conferring on creditor full CERCLA liability. 3. U.S. v. Fleet Factors, Corp., 901 F.2d 1550 (11th Cir. 1990), cert. denied, 498 U.S (1991), holding a secured creditor may incur liability without being an operator, by participating in the financial management of a facility to a degree indicating a capacity to influence the corporation s treatment of hazardous wastes. 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... (emphasis added). 4. In re Bergsoe Metal Corp., 910 F.2d 668 (9th Cir. 1990), holding entity that held title to property not to ensure that it would receive payment but

4 to guarantee bond indebtedness qualified for the secured lender exemption, stating [w]hat is critical is not what rights the Port had, but what it did. 5. Kelley v. EPA, 15 F.3d 1100 (D.C. Cir. 1994), voiding the 1992 EPA regulations on procedural grounds related to rule making. 6. Edwards v. First Nat l Bank of North East, 712 A.2d 33 (Md. 1998), holding banks that comply with the requirements of state lender liability law are immune from suits for cleanup of the contamination, but not from common law claims for environmental contamination filed against the banks by their borrowers. 7. Monarch Tile, Inc. v. City of Florence, 212 F.3d 1219 (11th Cir. 2000), holding that a government entity that purchases land for economic development and continues to hold title is not precluded from qualifying for the secured creditor exception as long as it holds indicia or ownership primarily to protect its security interest in the property. D. Selected State Approaches 1. Arizona (a) (b) (c) 1995: State Superfund (Water Quality Assurance Revolving Fund) rules amended, R to -113 (plus - 114, fiduciaries), to add secured lender exemption; almost word-for-word parallel to EPA rule except does not impose burden of proof on plaintiff and requires pre-loan due diligence. Never finalized because not certified by Attorney General, essentially on Kelley grounds. 1996: A.R.S (H) and (N)(2): provides a secured lender exemption in the State Superfund law comparable to the EPA rule, plus requires exempt financial institution to conduct due diligence prior to foreclosure 1996: parallel provision in A.R.S (B) of the UST statutes, comparable to the EPA rule 2. California - Cal. Health & Safety Code et seq. (1996). One of the more comprehensive exemption statutes protecting lenders from liability. Provides a lender is exempted from liability under any state or local statute, regulation or ordinance for cleanup costs or penalties associated with property contaminated by hazardous material. The new law is a restatement of the 1992 EPA rule but is broader in that it reaches hazardous wastes as defined in the Hazardous Waste Control Act (which is significantly broader than the federal definition) as well as CERCLA hazardous substances

5 3. Colorado - C.R.S (1996). Exempts foreclosing lender from governmental and third-party liability; after title vests, foreclosing lender not liable unless knowingly or recklessly caused new pollution; must do pre-foreclosure due diligence and correct noncompliance with environmental laws. 4. Illinois I.L.C.S. 5/22.2(h)(2)(E). Exempts a financial institution that acquires title by foreclosure unless it exercises continual or recurrent managerial control in the operation that caused the release of hazardous substance resulting in remedial action. 415 I.L.C.S. 5/57.12A has similar exemption under UST provisions. 5. Indiana Ind. ALS 59. Exempts a secured or unsecured creditor or a fiduciary who does not exercise actual and direct managerial control over hazardous substances at the facility; subsection (f) limits fiduciary liability to trust assets. 6. Iowa - I.C.A. 455B.381 (1996). [P]erson having control over a hazardous substance does not include foreclosing lender that is seeking to protect security interest or preserve value of collateral; includes USTs but not fiduciaries; lender may not exert managerial control [that] materially divests the borrower, debtor, or obligor of control ; state may impose a lien for cleanup costs (not a superlien ) even while lender holds title. 7. Kentucky - K.R.S (26) (1996). Provides exemption if foreclosing lender did not exert managerial control (only administrative/custodial/financial functions) pre- and post-foreclosure, did due diligence prior to foreclosure, did not cause/contribute to a release or threatened release, and complied with release notification requirements. 8. Maine - 38 M.R.S.A. 1367(A) (1996). Provides limited secured lender exemption; financial institution acting through a service corporation may be liable for contamination caused by the service corporation. 9. Massachusetts - M.G.L.A. 21E 2 (1998). Essentially mirrors the federal secured lender exemption with added clarification regarding what will constitute acting diligently to sell property after foreclosure (notably, burden of proof shifts to lender after 18 months post-foreclosure). 10. Michigan - M.C.L.A (1998). Substantively mirrors the federal secured lender exemption for pre-foreclosure activities. 11. Missouri - R.S.Mo (1996)

6 Adds secured lender exemption to UST program; sec excludes secured lender-owner whose interest was not obtained primarily for the purpose of avoiding environmental liability and exclude trustee; no personal liability for fiduciary if property value diminishes as a result of compliance with environmental laws. 12. New Jersey - R.S.A. 58: et seq. (1996). Creating a safe harbor for lenders from environmental liability; pre-loan investigation, loan-life monitoring, and post-foreclosure activities allowed; foreclosing lender may hold property for as long as five years; lender liability for post-foreclosure discharges includes only contamination resulted from lender s negligence; granting of security interests do not trigger ECRA requirements (see D. Farer s paper); applies to loan on secured personalty as well as real estate; fiduciaries protected, and liability limited to the assets of the estate. 13. Pennsylvania - 35 P.S et seq. (1996). In a concise and simple statutory scheme exempts a lender involved in the routine practices of commercial lending from liability under state environmental laws and regulations unless the lender (1) causes or exacerbates the release or (2) knowingly and willfully compelled the borrower to do an act that caused the release or to violate an environmental law. Liability only arises for lender actions that were the proximate and efficient cause of releases. 14. South Dakota - S.D. Codified Laws 34A-15-2 et seq. (1997). Exempts foreclosing secured lenders and fiduciaries; no liability prior to title vesting; after acquisition, lender must not have knowingly caused new pollution, must have done due diligence and corrected environmental noncompliance and made reasonable efforts to resell the property. 15. Vermont - S.A. tit. 10, 6615(g) (1996). Provides that financial institutions that hold indicia of ownership in property to protect a security interest will not be held liable under Vermont s environmental laws unless they cause or contribute to a release of hazardous substances. Like many of the laws being enacted in the states to protect lenders from environmental liability, the Vermont law essentially tracks EPA s lender liability rule. In addition, the law protects fiduciaries who do not cause or contribute to environmental contamination. The Vermont law resulted from the decision, later clarified, in Vermont Agency of Nat. Res. v. Pownal Tanning Co., No WnC (Super.Ct. Oct. 5, 1992) stating that, because Vermont is a title-theory state (i.e., creditor holds title until loan is paid off), bank could have owner liability. 16. Virginia - Va. St (1998). Exempts lenders who merely hold indicia of ownership to protect security interests from liability under state

7 UST liability similar language to CERCLA prior to the 1996 amendment. No express clarification, like federal scheme s, to explain what will qualify under this exemption. 17. Washington WASH. REV. CODE D.010 et seq. Exempts from liability under Model Toxics Control Act persons who hold indicia of ownership primarily to protect a security interest. The 1995 amendments to the Act parallel the 1996 CERCLA amendments and apply retroactively. See Harbor Steps Ltd. Partnership v. Seattle Technical Finishing, Inc., 970 P.2d 797 (Wash. Ct. App. 1999). E. World Bank Guidelines New World Bank-funded projects (approved in principle after June 30, 1999) must comply with the guidance in the Pollution Prevention and Abatement Handbook. 1. Handbook provides criteria for the use of environment-friendly technologies, reduction of pollution loadings to the environment, and interaction with local regulatory agencies. 2. Considered primary mechanism for reducing the lender liability of the Bank in countries that have not addressed the issue of potential lender liability. F. Strategic Considerations 1. Loan Decisions a. Lender s own due diligence versus reliance on seller s or buyer s b. Environmental insurance of lender as primary insured, or environmental insurance of seller or buyer with lender as additional insured (1) Some banks no longer require borrowers to perform due diligence if they purchase environmental insurance naming the bank as primary or additional insured (policy premium is typically less than the cost of a typical Phase I assessment) (2) If bank allows use of insurance in lieu of due diligence, then it should provide borrower a written disclosure that doing so does not constitute a finding by the bank that there are no environmental concerns associated with the property. See Mattingly v. First Bank of Lincoln, 947 P.2d 66 (Mont. 1997) (allowing borrower to proceed with negligent misrepresentation and constructive fraud claim

8 against bank, holding bank s waiver of due diligence in favor of insurance may have created false impression about the environmental conditions on the property). (3) Disadvantages of insurance in lieu of due diligence include losing the ability to (a) assert innocent purchaser defense and (b) accurately price the transaction. c. Provisions in loan agreement, whereby borrower promises to indemnify, hold harmless, and defend the lender against all environmental and related liability related to pre-existing environmental conditions at the property. d. Regulatory agency prospective purchaser agreements, whereby agency covenants not to sue purchaser involved in development of brownfields sites. e. Consent decree, whereby liability associated with preexisting contamination is fixed with respect to seller; buyer and lender may be included in consent decree s covenant not to sue and contribution protection. f. Disclosures to EPA under audit policy (discussed infra) 2. Foreclosures a. Effect of EPA lien on property, CERCLA 107(1), for which a note is held by lender who wishes to foreclose (1) Proper judicial foreclosure on pre-existing note will extinguish the lien (no super-priority for EPA). (2) Secured lender exemption at CERCLA 101(20) protects lender from further CERCLA liens (provided lender does not do anything to lose the exemption, such as active participation in or exacerbation of release). b. Operate to maintain value as collateral but not as investor; collect rents; common law negligence liability. 3. Sale of collateral - Purchaser of note should pay a bona fide purchase price if it wishes to maintain ability to (a) assert any secured lender exemption and (b) claim against parties that allegedly caused the contamination. See DMJ Assoc. L.L.C. v. Capasso, E.D.N.Y., No. 97-CV-7285 (5/14/99) (entertaining motion by waste generator defendants that purchaser of deeply discounted note on contaminated property had no standing to bring suit against defendants, for lack of material injury)

9 4. Claim by and against another PRP II. CERCLA LIABILITY OF TRUSTEES A. Statutory Basis of Rule - No Personal Liability 1996 Asset Conservation, Lender Liability and Deposit Insurance Protection Act as part of the Budget Reconciliation Act of 1996, added CERCLA 107(n), 42 U.S.C. 9607(n) 1. Specifically limits personal liability of a fiduciary who is defined to mean a person acting for the benefit of another party as a bona fide trustee, executor, administrator, custodian, guardian, receiver, or conservator. 2. Provides trustee with several protections: a. Fiduciary s liability is limited to those assets held in the fiduciary capacity; liability is therefore not unlimited as was held in Garbage Services, Co., discussed infra. b. Fiduciary not personally liable for any of the following activities: (1) Covenants, warranties, or other provisions concerning environmental compliance in the fiduciary documentation; (2) Monitoring or enforcing provisions of those documents; (3) Inspecting the facility; (4) Providing financial or other advice to the parties; (5) Restructuring the relationship; (6) Terminating the relationship; (7) Administering a facility that was contaminated before the relationship began; or (8) Conducting a response action under CERCLA or otherwise at the direction of the EPA. c. Persons who do not benefit from the law include an individual who: (1) Is not a fiduciary but directly or indirectly benefits from a trust or fiduciary relationship; (2) Is a beneficiary and a fiduciary with respect to the same estate; or

10 B. Administrative Response - None C. Notable Court Decisions (3) As a fiduciary, receives benefits that exceed customary or reasonable compensation. 1. U.S. v. Burns, 1988 U.S. Dist. LEXIS (D.N.H. 1988), holding trustee was also beneficiary of trust that held contaminated property; the trustee held legal title and therefore was owner with CERCLA liability. 2. Quadion Corp. v. Mache, 738 F. Supp. 270 (N.D. Ill. 1990), holding trustee had authority to control waste-handling practices and prevent hazardous waste damage, citing Kelley v. Thomas-Solvent, 727 F. Supp (W.D. Mich. 1989); therefore, trustee could have CERCLA liability. 3. U.S. v. Peterson Sand & Gravel, Inc., 806 F. Supp (N.D. Ill. 1992), holding Illinois land trustee who held title without any other incidents of ownership, at written direction of beneficiary who retains full management and control, has no CERCLA liability; making trustee liable, simply because of deep pockets, is not consistent with CERCLA goals and EPA policy. 4. City of Phoenix v. Garbage Services Co. (D. Ariz) a. Garbage Services I, 1991 U.S. Dist. LEXIS 17376, holding mere title does not create liability; need other additional indices of ownership sufficient to bring trustee within the CERCLA definition of owner. See also United States v. Friedland, 2001 U.S. Dist. Lexis 9826 (D. Colo. March 31, 2001), holding that bare legal title of unpatented mining claims held by the United States was not sufficient for purposes of CERCLA liability, where mining claimants possess vested property rights, the United States receives no financial benefits from the claims and no power to establish terms of a sale of the claim based on the land s value, and is not permitted to exclude individuals from the land. b. Garbage Services II, 816 F. Supp. 564 (D. Ariz. 1993), holding bank liable under CERCLA as an owner because, as trustee, it held bare legal or record title to the landfill. According to the court: (1) The bank was not an operator because it did not have control over the day-to-day management and administration of the landfill, citing Kaiser Aluminum & Chem. Corp. v. Catellus Dev. Corp., 976 F.2d 1338 (9th Cir. 1992)

11 (2) However, the bank was an owner because, according to the court, culpability is not required, and the only issue is whether liability derives from mere status as holder of legal title, a position expressly rejected in Garbage Services I. c. Garbage Services III, 827 F. Supp. 600 (D. Ariz. 1993), holding trustee could have unlimited personal liability for knowingly allowing the property to be used for the handling hazardous wastes. The court relied in part on Restatement (Second) of Trusts 264 (liability of trustee for tort is unlimited) and 265 (liability of trustee as title holder limited to trust assets). According to the court, CERCLA is similar to tort liability for an ultrahazardous activity. 6. Conclusions - Prior to 1996 CERCLA Amendment a. Liability under CERCLA 107(a)(1) (current owner of contaminated property) is limited to trust assets; this would be the result if the contamination occurred prior to creation of trust. b. Liability under CERCLA 107(a)(2) (ownership at time of disposal) is limited to trust assets if no power to control use of the property. cf. U.S. v. Peterson Sand & Gravel. c. If trustee has power to control use of property and knowingly allows the property to be used for the disposal of hazardous substances, the trustee s liability under 107(a)(2) is the same as if it held the property free of trust. The EPA s innocent landowners do not fall in this category. 7. Hervey v. Dyer, 972 P.2d 42 (Okla. Ct. App. 1998), holding that Congress did not intend to abrogate a receiver s judicial immunity when it enacted CERCLA. Thus, when a receiver acts within his authority he is entitled to immunity from suit under CERCLA. 8. U.S. Borax, Inc. v. Forster, 1999 Fla. App. LEXIS 6494 (Fla. Dist. Ct. App. 1999), cert. denied, 2000 U.S. LEXIS 4012 (2000), holding that CERLCA s three year statute of limitations does not preempt Florida s three month nonclaim statute of limitations. Thus, Borax s claim against decedent s estate, which was filed one year and eight months after the claims period expired, was untimely. D. Selected State Approaches 1. A number of states that have enacted lender liability reform have also included fiduciary liability protections. These include Arizona, Georgia, Illinois (Ill. Stat. Ann. ch. 111 ½, (h)(2)(C) (Smith-Hurd 1992)), Indiana (Ind. Stat. Ann (Burns 1992)), Kentucky (Ky. Rev.

12 Stat. Ann (Michie 1992)), Maryland, Massachusetts, Mississippi, Michigan, New Hampshire, New Jersey, Utah, Vermont, and Virginia. 2. Typically, these protections include: a. Exemption from liability where the trustee does not actually control hazardous substance decisions. b. A limitation on liability to trust assets. 3. Arizona: A.R.S (I), (L) & (N)(1) (1996) precludes personal liability of the fiduciary unless: E. Strategic Considerations a. The fiduciary, through intentional misconduct or gross negligence, causes a release of hazardous substances, or b. The appointment of the fiduciary is for the purpose of avoiding liability; it is prima facia evidence of an intent to avoid liability if the contaminated facility is the only substantial asset in the trust estate. 1. In establishing new trust: a. Conduct due diligence before accepting appointment; require warranties and representation. b. Spell out trustees duties and limitations, particularly with respect to known and unknown environmental conditions. c. Provide for adequate protection through the use of indemnification, hold harmless, and defense provisions; and insurance provisions with the trustee as either primary or additional insured.. 2. In managing trust, remember to balance the fiduciary obligation, which is to manage the trust assets wisely and avoid waste of the assets, against: a. The risk of federal operator liability accruing for participation in management beyond that necessary merely to protect investment interest; and b. The risk of common law liability accruing for negligent management of trust assets leading to or exacerbating environmental contamination. See Canadyne-Georgia, 183 F.3d 1269 (11 Cir. 1999) (stating the Asset Conservation Act does not limit the CERCLA liability of a fiduciary pertaining to a release of

13 F. Liability of Beneficiary a hazardous substance if active participation or negligence of the fiduciary is found to have caused or contributed to the release). 1. No statutes or case law on point, but can look for guidance to: a. Restatement (Second) of Trusts, 5, 8, 269, 270, 271, 274 and 279 (1987). b. Law governing CERCLA liability of shareholders 2. Unlimited personal liability if actively participated in the management and operation of, or exercised significant control over, the trust property at the time of the release. 3. Otherwise, personally liable only for a dollar amount not exceeding the value of the disbursements, under the trust fund theory of liability which holds a trust beneficiary who receives disbursements holds them in trust for the satisfaction of the dissolved trust s outstanding liabilities, including environmental liabilities. 4. But cf. Norfolk Southern Ry. v. Shulimson Bros., 1 F. Supp. 2d 553 (W.D.N.C. 1998), holding distributees of deceased operators of contaminated property could not be held liable under CERCLA to any extent, if their only involvement with the property was through inheritance of the property from the decedent. 5. Statute of limitations - CERCLA claim against beneficiary probably must be brought or at least noticed within the state s limitation period governing impleader or other collateral claims against trust beneficiaries, even though the state s limitation period is less than the CERCLA limitation period. Cf. U.S. Borax Inc. v. Nancy Forester, No (Fla. Dist. Ct. App. 5/19/99), stating CERCLA claimant could notify estate of decedentowner who contributed to the contamination of its claim, within state probate law s three-month period for filing claims against the estate, and then bootstrap onto the notice the CERCLA contribution claim filed within the three-year limitation period

14 III. CERCLA LIABILITY IN BANKRUPTCY A. Inherent Conflict Between Dischargeability in Bankruptcy and Environmental Liability 1. Polluter Pays vs. Fresh Start a. Environmental law - intent is to make the polluter pay for remediating the contamination it caused. b. Bankruptcy - purpose is to discharge all debts and give the debtor a fresh start. (1) Chapter 11 allows a corporate debtor to reorganize its affairs, discharge its debts, and start the business anew without lingering debts. Generally, the debtor will retain control of the assets and use the income to pay creditors pursuant to the reorganization plan. 11 U.S.C (2) Chapter 7 liquidates individual debtor s assets by sale to a trustee appointed by the court, proceeds are used to pay the creditors claims, and the business operations do not continue. 11 U.S.C When is a claim dischargeable? All pre-petition debts or claims are subject to discharge under the applicable bankruptcy chapter, unless the claim is one that is non-dischargeable under Section 523 of the Bankruptcy code. Therefore, ability to discharge an obligation for an environmental liability depends on whether it constitutes a dischargeable debt or claim. a. Claim means a right to payment, whether or not such right is reduced to judgment, liquidated, unliquidated, fixed, contingent, matured, unmatured, disputed, undisputed, legal, equitable, secured or unsecured; or right to an equitable remedy for breach of performance if such breach gives rise to a right to payment, whether or not such right to an equitable remedy is reduced to judgment, fixed contingent, matured, unmatured, disputed, undisputed, secured or unsecured. 11 U.S.C. 1015). Notable court cases include: (1) Ohio v. Kovacs, 469 U.S. 274 (1985), holding liabilities under environmental laws generally constitute claims and are thus dischargeable debts in bankruptcy

15 (2) In re Torwico Electronics, Inc., 8 F.3d 146 (3d Cir. 1993); cert. denied, 511 U.S (1994), holding state s attempt to compel cleanup of ongoing hazard is not a dischargeable claim because state has right to force compliance with regulatory laws. (3) AM Int l v. Datacard Corp., 106 F.3d 1342 (7th Cir. 1997), holding defendant in a CERCLA action cannot convert court s order to clean up a site into a right of payment dischargeable in bankruptcy. (4) In re Duplan Corp., 212 F.3d 144 (2nd Cir. 2000), holding that a CERCLA claim arising during a reorganization is an administrative expense. Thus, it is not discharged by the confirmation plan or final decree. b. Courts must, on a case-by case basis, decide at what point a contingent liability is too remote to be called a claim. The determination is fact-specific. In re Hassanally, 208 Bankr. 46 (9th Cir. 1997). The majority of courts hold a claim arises under the federal and state environmental statutes upon the actual or threatened release of a hazardous substance or when the conduct giving rise to the cause of action occurs. Notable court cases include: (1) Ohio v. Kovacs, 469 U.S. 274 (1985), holding a pre-petition injunction requiring debtor to clean up waste was a dischargeable debt because it had been reduced to money judgement. (2) In re Chateaugay Corp., 944 F.2d 997 (2nd Cir. 1991), stating a claim will be denied if the right to payment is too remote or speculative. Also, holding unincurred costs for a pre-petition hazardous waste release are pre-petition claims and may be discharged; injunction is alternative to payment, which is dischargeable. But no discharge for costs by EPA in response to current pollution. EPA costs incurred post-petition have administrative priority. Suggested that Congress, not the Courts, should reconcile any conflict with CERCLA. (3) In re Jensen, 127 B.R. 27 (Bankr. 9th Cir. 1991), holding a claim under federal and state environmental statutes arises upon the actual or threatened release of a hazardous substance or when the conduct giving rise to the cause of action occurs, even if cleanup costs were incurred post-petition; this was a Chapter 7 action.

16 (4) U.S. v. Serafini, 34 E.R.C. (BNA) 1318 (M.D. Pa. 1991), holding confirmation of a bankruptcy plan, including dischargeability, does not discharge a CERCLA claim that did not exist at the time of the court s approval. (5) Erman v. Lox Equipment Co., 1992 U.S. Dist. LEXIS 9619 (N.D. Cal. 1992), holding in sale of known contaminated property during bankruptcy proceedings, claim arises at time of sale; in other words, there is no discharge and owner can claim against reorganized company. (6) In re Media Vision, 1997 U.S. Dist. LEXIS 2389 (N.D. Cal. 1997), holding neither the Bankruptcy Code nor the Supreme Court has defined when a claim arises; that several tests have been devised and the courts must determine which test is appropriate; and, concerning CERCLA, the court supports the Jensen test (discussed supra). (7) In re Manville Forest Products Corp., 209 F.3d 125 (2nd Cir. 2000), holding that the plaintiff s claim for indemnification of expenses incurred under the Louisiana Environmental Quality Act ( LEQA ), which was enacted after the defendant s bankruptcy, was a pre-petition claim and was barred by the bankruptcy court s confirmation order. The relevant non-bankruptcy law determines when a claim arises for the purposes of bankruptcy law. In this case, principles of contract law dictate that the plaintiff s claim arose when the indemnification agreements were executed, because the relationship between the [parties] contained all the elements necessary to give rise to a legal obligation. (8) In re Duplan Corp., 212 F.3d 144 (2nd Cir. 2000) holding that for bankruptcy purposes a CERCLA claim cannot arise prior to CERCLA s effective date of December 11, 1980 (see also Chateaugay, discussed supra) (9) Jones v. Chemetron Corp., 212 F.3d 199 (3rd Cir. 2000), holding that a claim arises for bankruptcy purposes at the same time the underlying state law cause of action accrues. Thus, Ohio tort law dictated when the plaintiff s alleged claims of injury based on exposure to toxic chemicals accrued. The court also held that the potential claim of an unborn child not represented in bankruptcy reorganization proceedings is not discharged by a confirmation order.

17 (10) In re Crystal Oil Co., 158 F.3d 291 (5th Cir. 1998), holding that an environmental claim arises for purposes of bankruptcy when a potential... claimant can tie the bankruptcy debtor to a known release of a hazardous substance. (adopting the 7th Circuit Court s test from In re Chicago, Milwaukee, St. Paul & Pac. R.R. Co., 974 F.2d 775 (7th Cir. 1992)). Thus, a claim arises when through the exercise of reasonable diligence the claimant could have discovered that it had a claim against the debtor. In this case, the court held that a bankruptcy claim brought by the Louisiana Department of Environmental Quality ( LDEQ ) arose when a State investigator observed waste oil and an old sign with the name of the debtor s predecessor on the contaminated property even though LDEQ could not conclusively tie the debtor to the hazardous release. (11) In re Texaco, Inc., 254 B.R. 536 (Bankr. S.D.N.Y. 2000), holding that confirmation order did not discharge oil lessee from obligation to clean up and restore well sites that under state law do not arise until after confirmation. 3. Pre-petition filing: non-dischargeability of pre-petition environmental obligations a. Any fine, penalty or forfeiture payable to and for the benefit of a governmental unit and which is not compensation for actual pecuniary loss is not dischargeable by an individual debtor under Chapters 7, 11, 12 & U.S.C. 523(a)(7). b. Under Chapter 11, the environmental obligations of a business entity are subject to discharge to the extent the environmental obligation is not paid under a confirmed plan of reorganization and the plan does not provide for the liquidation of all, or substantially all, of the property of the estate. 11 U.S.C. 1141(d)(3). c. The Supreme Court in Ohio v.kovacs, 469 U.S. 274 (1985), noted that if an environmental agency s clean-up order resulted in a fine or penalty prior to bankruptcy, the environmental obligation would be a nondischargeable debt within the meaning of 523(a)(7). d. But see, In re Bicoastal Corp., 149 Bankr. 216 (M.D. Fla., 1992). For pre-petition Chapter 11 claim for environmental damage, failure to file claim before petition or even shortly after notice by publication disallows claim. Full discharge

18 (1) Contra, In re Eagle-Picher Indus., Inc., 131 F.3d 1185 (6th Cir. 1997). Federal and state agencies may be entitled to submit a claim after bankruptcy deadline for submitting claims if it was excusable neglect not to have timely filed. (2) See also AM Int l Inc. v. Datacard Corp., 106 F.3d 1342 (7th Cir. 1997). Subsequent purchaser s RCRA and CERCLA claims against debtor/prior owner of property not discharged if subsequent purchaser did not have sufficient information to tie debtor to contamination before debtor s plan was confirmed. e. Future environmental liabilities may be discharged if they were contemplated by the parties at the time the bankruptcy was filed. In re National Gypsum Co., 1992 U.S. Dist. LEXIS 4834 (N.D. Texas, Feb. 12, 1992). Massachusetts adopted the fair contemplation - foreseeability test in Reynolds Brothers, Inc. v. Texaco, Inc., 647 N.E.2d 1205 (Mass. Sup. Jud. Ct. 1995), to determine when a claim for cleanup under state law was discharged. 4. Notice to creditors and schedule claims: dischargeability could be precluded if the debtor fails to provide formal notice of the proceeding to a known creditor. In re Maya Construc. Co., 78 F.3d 1395 (9th Cir. 1996). 5. Administrative priorities: classification and priority of environmental claims a. Section 503(b)(1)(A) provides that actual necessary costs and expenses of preserving an estate are entitled to an administrative expense status. Administrative expense claims have a first priority in payment. 11 U.S.C. 507(a)(1); see Midlantic Nat l Bank v. New Jersey Dep t of Envtl. Prot., 474 U.S. 494 (1986) (environmental cleanup costs can have administrative priority for health/safety reasons). b. In addition, Section 507(a)(7)(G) provides that a penalty related to an allowed unsecured claim of a governmental unit and in compensation for actual pecuniary loss is entitled to a seventh priority making it difficult for the government to recover remedial action costs. 11 U.S.C. 507(a)(7)(G). c. Some courts have taken the position that environmental clean-up costs are administrative expenses entitled to administrative priority as actual and necessary costs and expenses of preserving the estate. In re Chateaugay Corp., 944 F.2d 997 (2d Cir. 1991); See also In

19 re Wall Tube & Metal Products Co., 831 F.2d 118 (6th Cir. 1987); In re Smith-Douglass, Inc., 856 F.2d 12 (4th Cir. 1988); In re Stevens, 68 B.R. 774 (Bankr. D. M. 1987). See also First Virginia Bank v. Virginia Builders, Inc. 153 B.R. 729 (Bankr. E.D. Va. 1993); In re Jones Transfer Co., 1996 U.S. Dist. LEXIS (E.D. Me., June 18, 1996). d. Other courts have taken the position that clean up costs, even if incurred post-petition for contamination which occurred pre-petition, are not entitled to administrative priority and are merely general unsecured claims. In re Dant & Russell, Inc., 853 F.2d 700 (9th Cir. 1988); Southern Ry. Co. v. Johnson Bronze Co., 758 F.2d 137 (3rd Cir. 1985); In re Allen Care, 96 F.3d 1328 (4th Cir. 1996); In re Unidigital, Inc., 262 B.R. 283 (Bankr. D. Del. 2001). Notable court cases include: (1) In re NP Mining Co., 963 F.2d 1449 (11th Cir. 1992). Post-petition civil penalties for violations after bankruptcy filed and under Chapter 11 reorganization have administrative priority because trustee must continue to operate in compliance with laws. (2) Pennsylvania Dept. of Envtl. Res. v. Conroy, 24 F.3d 568 (3d Cir. 1994). Agency removal of hazardous waste as interim response to avoid endangering public health and safety and environment is reimbursable as administrative priority, including 10% for administrative and legal costs. (3) Cumberland Farms, Inc. v. Florida Dep t of Envtl. Prot., 116 F.3d 16 (1st Cir.). State agency s fine of company for failure to timely file financial responsibility reports under state UST program is given administrative priority. (4) Pennsylvania Dep t of Envtl. Res. v. Tri-state Clinical Lab. Inc., 178 F. 3d 685 (3rd Cir. 1999), cert. denied, 528 U.S (2000), holding that a non-compensatory, criminal fine imposed for post-petition violations of the Pennsylvania Solid Waste Management Act cannot be classified as administrative expenses under 11 U.S.C. 503(b), and therefore, [cannot be] accorded priority status pursuant to 507(a)(1). But see, In re NP Mining Co., discussed supra, which holds that post-petition civil penalties are entitled to priority as administrative expenses. e. EPA Guidance on Participation in Bankruptcy Cases (9/30/97) includes EPA s position on what kinds of government

20 environmental claims are secured, administrative expense, and unsecured claims (discussed at Section III. F, infra). B. Automatic Stay 1. Bankruptcy triggers automatic stay which basically stops the creditor s efforts to collect from the debtor or to interfere with the debtor s property. 11 U.S.C. 362(a) (staying all entities from the commencement or continuation,... of a judicial, administrative or other action or proceeding against the debtor that was or could have been commenced before the commencement of the case under this title ). 2. Exceptions to automatic stay when environmental laws are involved: a. Section 362(b)(4): provides the filing of a petition does not operate as a stay of the commencement or continuation of an action or proceeding by a governmental unit to enforce such governmental unit s policy or regulatory powers. This is to insure that the automatic stay is not used by a debtor to stop a governmental unit from suing the debtor. b. Section 362(b)(5): provides the petition does not operate as a stay of the enforcement, other than a money judgment obtained in an action or proceeding by a governmental unit to enforce such governmental unit s policy or regulatory powers. This exception is unique to those situations where a judgement was obtained by the governmental unit in furtherance of its police and regulatory powers prior to commencement of the case. c. Bankrupt s failure to halt discharge of raw sewage, pursuant to preliminary injunction, triggers governmental police/regulatory power and enforcement of non-money judgment and is not blocked by automatic stay provision, Friends of the Sokonner v. Dutra, No P (D. R.I. 1991). 3. However, filing a bankruptcy petition does not exempt a debtor operating a business from compliance with a federal and/or state environmental laws. United States v. Wheeling-Pittsburgh Steel Corp., 818 F.2d 1077 (3rd Cir. 1987). 4. Enforcement of Injunctive Relief and the Automatic Stay. a. If a governmental entity is seeking to enforce injunctive-type relief such as the abatement of environmental hazards, a majority of courts have held that such action is not barred by the automatic stay. United States v. Nicolet, Inc., 857 F.2d 202 (3rd Cir. 1988); Penn Terra, Ltd. v. Penn. Dep t of Envtl. Res., 733 F.2d 267 (3rd Cir. 1984); In re Commonwealth Oil Refining Co., Inc., 805 F.2d

21 C. Abandonment (5th Cir. 1986) cert. denied, 483 U.S (1987). The fact that injunctive relief may require an expenditure of funds by the debtor is not enough to stay the action unless the substance of the action is the enforcement of a money judgment. Penn Terra Ltd. v. Penn Dep t of Envtl. Res., 733 F.2d 267 (3rd Cir. 1984). b. Other courts, however, have indicated that the automatic stay is applicable even when injunctive relief is sought. United States v. Johns-Manville Sales Corp., 18 E.L.R. 20,310, 20,311 (D.N.H. 1982); In re Thomas Solvent Co., 44 Bankr. 83 (Bankr. W.D. Mich. 1984). c. The fixing of fines and penalties by an environmental agency may be allowed pursuant to the exception to the automatic stay under 362(b)(4). A judgment, however, for money damages may not be enforced post-petition against property of the bankruptcy estate. In re Commerce Oil Co., 847 F.2d 291 (6th Cir. 1988); U.S. v. Nicolet, Inc., 857 F.2d 202 (3rd Cir. 1988). 5. Relief from Automatic Stay a. In re Graves, 212 B.R. 692 (1st Cir. 1997), holding that a mortgagee bank was not entitled to relief from an automatic stay when it slept on its rights and failed to exercise due diligence in asserting its right to relief with respect to the debtor s property. 1. Statutory authority - 11 U.S.C. 554(a) and (b) (1997). a. After notice and a hearing, the trustee may abandon any property of the estate that is burdensome to the estate b. On request of a party in interest and after notice and a hearing, the court may order the trustee to abandon any property of the estate that is burdensome to the estate 2. Court decisions a. Allowed only if no imminent and identifiable harm. See Midlantic Nat l Bank v. NJDEP, 474 U.S. 494 (1986); In re L.F. Jennings Oil Co., 4 F.3d 887 (10th Cir. 1993); In re FCX, Inc., 96 Bankr. 49 (Bankr. E.D.N.C. 1989); In re Peerless Plating, 70 Bankr. 943 (Bankr. W.D. Mich 1987); In re Unidigital, Inc., 262 B.R. 283 (Bankr. D. Del. 2001) (abandonment of printing press in building allowed because landlord failed to show that any state regulation was violated or that chemicals abandoned along with press were on RCRA list).

22 D. Successor Liability b. Oral notice to creditors regarding abandonment by trustee was effective to avoid liability for spill and resulting contamination despite trustee s later actions to negotiate lease. In re Southern Int l Co. L.P., 165 Bankr. 815 (E.D. Va. 1994). c. See also In re Graves, 212 B.R. 692 (1st Cir. 1997). Mortgagee bank unsuccessfully argued that the debtor abandoned the property. 1. Dissolved Corporation a. Bancamerica v. Mosher Steel Co., 1992 U.S. Dist. LEXIS (D. Kan. 1992). Dissolved corporation may be liable for its share if assets not all distributed; Congress intended to allow CERCLA action against dissolved corporations. b. N.Y. v. Panex Ind. Indus., 1996 U.S. Dist. LEXIS 9418 (W.D.N.Y. 1997). Corporate dissolution is not found among the defenses specifically recognized in CERCLA actions. This Court finds it unlikely that Congress intended that CERCLA treat differently and inconsistently corporations in identical positions based upon the state of their incorporation. CERCLA preempts state law in actions for recovery of costs and damages. c. AM Properties Corp. v. GTE Prods. Corp., 844 F.Supp (D.N.J. 1994). Dissolved corporation that distributed assets before CERLCA cost recovery action is dead and buried and not a CERCLA 107 person subject to liability; insurance polices and indemnification rights not recoverable assets for pre-dissolution liabilities. See also Global Landfill Agreement Group. v. 280 Development Corp., 992 F.Supp. 692 (D.N.J. 1998). (1) Contra Town of Oyster Bay v. Occidental Chem. Corp., 987 F. Supp. 182 (E.D.N.Y. 1997) Corporations that dissolved and distributed assets are liable under CERCLA; however, collectability of claim under state law might make claim worthless. (2) New York v. Longboat, Inc., 140 F. Supp.2d 174 (N.D.N.Y. 2001) Under New York law, a dissolved corporation continues to exist for purposes of winding up its affairs, and may be liable under CERCLA for its pre-dissolution activities

23 E. Trustee Liability d. Browning-Ferris Indus. of Ill., Inc. v. Ter Maat, 1996 U.S. Dist. LEXIS 1738 (N.D. Ill., Feb. 16, 1996). Shareholders of dissolved corporation not liable under trust fund theory because no CERCLA costs incurred, and thus no claim existed, prior to dissolution. See also State of New York v. Panex Indus., Inc., 1997 U.S. Dist Lexis (W.D.N.Y. 1997). 2. Former Subsidiary a. In re Hillsborough Holdings Corp. (Hillsborough Holdings v. Celotex Corp.), 176 Bankr. 223 (M.D. Fla. 1994) - Bankrupt not liable for cleanup obligations of former subsidiary unless formal piercing the corporate veil showing no separate legal existence of subsidiary and sham. 1. Obligation to manage in compliance with laws and subject to lawsuit without permission of appointing court, 128 U.S.C. 959(b). 2. Ninth Circuit rule: a trustee is personally liable for either intentional or negligent violations of duties imposed by law. In re Cochise College Park, Inc., 703 F.2d 1339, n.26 (9th Cir. 1983). 3. Other decisions a. Trustee does not own the property, but he operates it in his representative capacity. Environmental claims of an administrative expense is a claim against the estate and not the trustee. In re T.P. Long Chem, Inc., 45 Bankr. 278 (Bankr. N.D. Ohio 1985) (debtor s estate liable for EPA s cost of recovering drums of hazardous waste as administrative expenses). b. Trustee represents the estate and may, in representative capacity, be sued to establish the liability of the estate. In re Hemingway Transportation, Inc., 73 Bankr. 494 (Bankr. D.Mass. 1987) (EPA exempt from joinder in suit to determine liability). c. The trustee or debtor-in-possession must comply with all valid state and federal laws pursuant to 28 U.S.C. 959(b). Trustee is only liable where he has engaged in willful or intentional misconduct. State v. Better Brite Plating Inc., 466 N.W.2d 239 (Wis. Ct. App. 1991). d. Where trustee acts outside of official capacity and scope of authority, he may be sued personally in state court. Nonetheless, violation of state law does not necessarily mean the trustee was acting beyond the scope of his authority. Trustee acting in his

24 official capacity but not carrying on business of the property, is not subject to jurisdiction of state court for state environmental law violations unless appointing court approves. Wisconsin v. Better Brite Plating Inc., 483 N.W.2d 574 (Wisc. 1992). e. State court appointed receiver is not personally liable for CERCLA close-up cleanup costs as a result of receivership activities because it enjoyed judicial immunity derived from the appointing judge. Also, receivers are immune from tort liability unless they acted negligently or with willful misconduct. In re Sundance Corp., No R41 (Bankr. E.D. Wash., Jan. 13, 1993) CERCLA amendment includes bankruptcy trustee - see section II supra. F. EPA Guidance on Participation in Bankruptcy Cases Steven A. Herman, Assistant Administrator (9/30/97) 1. Identifies the factors EPA will consider in determining whether to participate in a bankruptcy case, including whether to pursue collection against the bankruptcy estate for environmental penalties and costs against the debtor. 2. Factors include: a. Assets and liabilities of the bankruptcy estate. b. Into which category of claims the EPA claim falls (outstanding claims grouped into categories of relative priority, discussed infra). c. Priority of EPA s claim within its category of claims. 3. EPA to take a hard look behind the debtor s bankruptcy schedule because they are sometimes misleading. 4. EPA will usually go after the secured and administrative expense claims, but not the unsecured claims (presented in order of priority, as follows): a. Secured claims. Will be paid in bankruptcy to the extent of the value of the collateral securing such claim; any amount over the amount of the collateral is treated as an unsecured claim. Examples of secured claims include: (1) Prior to the bankruptcy filing, EPA perfected a CERCLA lien against property owned by the debtor