When A Lender is Thinking of Foreclosure

Many "lenders" (i.e., investors, B-piece buyers, mezz lenders) who never imagined that they would be taking title to property are now finding themselves either commencing foreclosure actions or suddenly holding stock/membership interests in an entities that hold title. Because these "lenders" never thought they would foreclose, they did not take the time to learn about the secured creditor exemption or were told a fanciful story by a non-environmental lawyer or a non-lawyer who was providing legal advice. As a result, these "lenders" are not fully aware of (1) the limitations of the secured creditor exemption) and (2) post-foreclosure obligations to preserve that immunity.

Further complicating the problem is that since the lenders thought they were taking interests in AAA-rated notes, the underlying loan documents did not spell out the foreclosure procedures. At the other extreme are the indentures or trust documents that require trustees to make sure the properties are in compliance with all laws prior to commencing foreclosure.    

Many professionals will tell clients how the secured creditor MAY be able to protect them. However, I think this does a disservice to the client who is already under enormous stress from the losses it has already incurred and who may be willing to grasp at any straws regardless of how illusory or elusive to stop the bleeding.

Instead, I found it more useful to tell them that they should act as if the secured creditor exemption does not apply to them. In other words, they need to make decisions based on the idea that they may be liable simply on the basis of their naked title. 

This approach helps to focus the client on the potential environmental risks. Once the client appreciates the potential risk, we can have a more realistic discussion on its exit strategy, the scope of the diligence, and potential risk mitigation strategies.  

I am not suggesting that one unduly scare or alarm a client. Instead, I am suggesting that one should let the client know that the exemption may not apply for reasons we might not yet know and that their decision-making should be informed by the potential that this line of defense might not be available. The clients can then do what they do every day-evaluate the potential risks of a transaction.

Environmental liability is just one of the risks associated with a foreclosure. Once a client is aware that it might have such liability, it can decide what risk mitigation strategies, if any, they might want to employ based on their own risk tolerance. Sometimes, clients have walked away from the asset because of the uncertainty associated with pre-existing conditions, However, I have also had clients perform additional due diligence to try to develop potential cleanup estimates (based on what passed as an AAI-compliant report during the loan origination, this may be the first time real diligence is done on the property), explore insurance, enroll in a voluntary cleanup program, and sell the note at a reduced price. Sometimes the lender/investors have taken such a "haircut" that they have been willing to roll the dice on possible liability and take title because they think there is inherent value in the property that they or some third party may be able to realize down the road.