Top 5 Considerations for Commercial Landlords When Negotiating Hazardous Materials Provisions in a Retail or Office Lease
Top 5 Considerations for Commercial Landlords When Negotiating Hazardous Materials Provisions in a Retail or Office Lease
An important concept applicable to commercial leasing that can be easily overlooked is the “Environmental Matters” or “Hazardous Materials” sections. Especially in urban infill locations that have a long history of mixed commercial and industrial uses, the issue of how to handle Hazardous Materials has become a more prominent deal point for Developers, Landlords and Tenants alike. As advances in science, more strict regulations (particularly in California), and heightened awareness of human health impacts resulting from environmental hazards continue to elevate the issue of managing Hazardous Materials, properly addressing such issues in a commercial lease can be vital to the success of the entire project and “closing” the deal. When negotiating a commercial lease, Landlords and Tenants will often use boilerplate Hazardous Materials provisions. While such boilerplate language may serve as a good framework for how to initially address Hazardous Materials, the following “Top 5” considerations for Landlords are important points that can add value to almost any lease negotiation.
Properly Defining Hazardous Materials
To the extent the Tenant is required to comply with laws relating to Hazardous Materials, it is important for the definition of Hazardous Materials to be broad enough to cover virtually any type of Hazardous Materials that may be present on the property. One way to achieve this is to define Hazardous Materials according to current and future laws. As we know in California, environmental laws are likely to become stricter over time, and defining Hazardous Materials in accordance with local, state, and federal laws will ensure that environmental requirements under a commercial lease evolve as new laws are enacted. While California has some of the strictest environmental laws and regulations, there are newly-classified hazardous substances on the horizon that we recommend expressly including in a commercial lease. For instance, so called “forever chemicals” such as per- and polyfluoroalkyl substances (collectively referred to as “PFAS”) should be included in the definition of Hazardous Materials. PFAS are most commonly used for “non-stick” applications (i.e. cooking products) and as a water repellent for textiles. Health impacts from unsafe levels of PFAS in drinking water are still being researched, but concerns about forever chemicals have received significantly more attention from government regulators over the last couple years. Separately, with the prevalence of human health impacts from toxic mold, a Landlord may also want to expressly include mold within the definition of Hazardous Materials. However, a broad definition of Hazardous Materials serves as a double-edged sword because both the Landlord and Tenant must comply with rules regarding a broader range of substances. Generally, a broad definition is still advantageous, because undefined Hazardous Materials can create ambiguities regarding each party’s responsibilities under the lease.
After establishing a broad definition for Hazardous Materials, a Landlord should consider requiring the Tenant to immediately inform the Landlord of any Hazardous Materials it becomes aware of or brings on to the property. This duty to inform can also be coupled with an acknowledgement (if applicable) by the Landlord and Tenant that to the best of their knowledge, no Hazardous Materials exist on the premises and that Tenant takes the property “as-is”. Such an acknowledgment and representation would be beneficial to a Landlord if Hazardous Materials are discovered later in the lease term, and the Tenant argues it did not have reason to know about, or opportunity to test for, Hazardous Materials. As an accommodation to the Tenant, a Landlord may want to carve out exceptions to the broad Hazardous Materials definition to allow for small quantities of “everyday commonplace use” hazardous materials directly related to and necessary for the Tenant to conduct its business. This carve-out represents the practicalities of operating a business and can still be narrowly tailored to protect a Landlord.
Presence of Hazardous Materials Attributable to Tenant and Landlord
In the event Hazardous Materials attributable to a Tenant are discovered on the property, the lease should clearly state that the Tenant is solely responsible for all costs of investigation and remediation. The Tenant should be required to investigate, remediate and restore the property to the condition that existed at the time of lease execution (i.e. typically the “Effective Date”), and such investigation, remediation and restoration should comply with all applicable laws and regulations. If a Landlord desires to maintain complete control of the remediation process, the Landlord can require the Tenant to provide notice of any pending remediation, and allow for the Landlord, at its election, to conduct the remediation activities on its own accord and charge the Tenant for the actual out-of-pocket costs it incurs. Consideration should also be given to a “baseline assessment” at lease commencement, to compare against an “exit assessment” at the time of lease termination.
If the Tenant requires that the Landlord also be liable for the presence of Hazardous Materials, a mutual provision can be drafted with some modifications. If Hazardous Materials attributable to the Landlord are found on the property, the Landlord (like the Tenant) should be solely responsible for the cost of remediation. The Tenant may request rent abatement if it cannot operate due to the presence of Hazardous Materials attributable to the Landlord. The Landlord may consider offering rent abatement if the lease contains a requirement for the Tenant to maintain business interruption insurance. If these provisions are present in the lease, the Landlord should provide that rent will be abated only to the extent the Tenant’s insurance does not provide complete coverage for the payment of rent. In the event the Tenant’s business requires the use of Hazardous Materials (i.e. gas station, dry cleaner), the Landlord should require that the Tenant maintain additional insurance (i.e. environmental insurance).
Presence of Hazardous Materials Attributable to an Unknown Third-Party Source
In the event Hazardous Materials attributable to an unknown third-party source are discovered, as between Landlord and Tenant, the Landlord should generally be responsible for the cost of remediation and restoration of the property. It may be beneficial to include a “use/control” test in the lease to determine responsibility for remediation. For instance, if the Tenant operates a business that requires security, and pursuant to the terms of the lease, the Tenant failed to take reasonable security measures and such failure led to a third party dumping hazardous wastes on the property, the Landlord should not be responsible for the presence of Hazardous Materials because the Tenant was in a better position to prevent this from occurring. Another paradigm scenario for unknown sources of Hazardous Materials is migrating contamination. If contamination migrates through the groundwater from an off-property source, the Landlord, as the party who presumably owns and controls the property, should be responsible. Of course, the Landlord could then pursue remedies against the third-party polluter (i.e. claims for contribution under CERCLA, nuisance, and trespass, etc.), but these remedies are beyond the scope of this article.
Protocols for Environmental Testing
If the Tenant has a reasonable basis for believing Hazardous Materials are present in the environment below the Premises at concentrations that could represent a potential human health risk due to the possible migration of volatile organic compounds into indoor air by being transported through the building foundation in soil vapor (“Vapor Intrusion Risks”), the lease should reference agreed-upon standards and protocols for environmental sampling to evaluate the Vapor Intrusion Risks. These standards and protocols should require an evaluation of “multiple lines of evidence” to assess the Vapor Intrusion Risks. This requirement helps to avoid the “outlier effect” of one sampling event determining the condition and severity of the Hazardous Materials contamination at issue. A growing trend is for tenants to require indoor air assessments prior to lease commencement.
Hazardous Materials Indemnification
If the Tenant (or its agents, contractors, employees, or anyone for whose conduct the Tenant is responsible) causes the presence of Hazardous Materials on the property, the Tenant should indemnify the Landlord for all its damages (including, but not limited to, attorneys’ fees and consequential damages). This indemnification can be mutual, and equally apply to the Landlord, but the Landlord should try to limit any indemnification of the Tenant to Hazardous Materials introduced solely by the Landlord. Whether or not the indemnity is mutual, it should make an exception for Hazardous Materials on the property that pre-date the Effective Date of the lease. The Landlord should also check the lease for any existing provisions that waive consequential damages. If the lease contains a waiver of consequential damages (which many lease forms include), the Landlord should consider specifically excepting the Tenant’s Hazardous Materials indemnification of the Landlord from this waiver, because in the event the presence of Hazardous Materials causes damage, such damage is likely to include consequential damages due to the often “long tail” effect of Hazardous Materials remediation, the opportunity cost of an unproductive property during the remediation, and the loss in property value due to the presence of Hazardous Materials. However, similar to the first topic regarding the implications of a broad definition of Hazardous Materials, discussed above, a Landlord should be aware that consequential damages can work against itself if Hazardous Materials attributable to the Landlord damage the Tenant.
The foregoing considerations can be helpful in supplementing existing lease form provisions and negotiations regarding the responsibility for Hazardous Materials. This article is intended to be a brief overview of certain issues a Landlord should consider when negotiating and drafting a lease, and is by no means an exhaustive analysis of Hazardous Materials in the commercial leasing context. Please feel free to contact any member of our team if you have questions or would like assistance with Hazardous Materials provisions (or any other provisions) in your lease.