Environmental due diligence is a required component of SBA lending, used to evaluate potential environmental risk and ensure loan eligibility. This process typically begins with a Phase I Environmental Site Assessment to identify Recognized Environmental Conditions (RECs). Where RECs are identified, a Phase II Environmental Site Assessment may be conducted to evaluate the presence and extent of contamination.
Not all loans, however, require or warrant a full Phase I Environmental Site Assessment. A tiered approach to environmental due diligence, involving streamlined environmental reports that are more limited in scope, can be a cost-effective and efficient tool for screening high-risk properties. These “environmental desktop reports” are often used on smaller loans and/or those loans involving lower-risk properties.
Two of these types of reports, a Records Search with Risk Assessment (RSRA) and a Transaction Screen Assessment (TSA), are a compulsory part of the Small Business Administration’s (SBA) environmental policy for SBA lenders. What are these reports, and how are they used for SBA loans? We delve into that below.
Records Search with Risk Assessment (RSRA) Reports
The report must identify the Environmental Professional who performed the assessment and include a search of the government databases identified in 40 CFR § 312.265 for Phase I ESA reports. It must also include a search of historical use records dating back to 1940 or the first developed use of the subject property. Appropriate records can include aerial photography, city directories, reverse directories, and/or fire insurance maps. Topographic maps are also appropriate; however, they should not be used as a sole source for the determination of risk. Similar to a Phase I ESA, an RSRA includes regulatory database review and historical research, but it does not include a site inspection by the consultant.
When an RSRA is ordered, the lender is responsible for conducting a good-faith site visit with the property owner or occupant (signature required) and completing an Environmental Questionnaire (EQ). If the property owner refuses to sign the EQ, at a minimum, a Transaction Screen Assessment (TSA) must be completed.
SBA Transaction Screen Assessment (TSA) Reports
A Transaction Screen Assessment (TSA) is a cost-effective next step in environmental due diligence beyond an RSRA, providing additional detail while remaining less comprehensive and less expensive than a Phase I Environmental Site Assessment. Also called an Environmental Transaction Screen (ETS), the TSA is essentially a scaled-down version of the Phase I Environmental Site Assessment; however, it follows an alternative ASTM method (E1528-22). An SBA TSA report satisfies lender due diligence requirements for low-risk properties (such as a residential property adjacent to a car wash or sites with no historical records of high-risk use), while higher-risk properties typically require a full Phase I ESA. As risk increases, a higher level of due diligence is required.
A Phase I Environmental Site Assessment is the industry standard because it meets ASTM E1527-21 and EPA All Appropriate Inquiry (AAI) requirements. Most importantly, it is the only level of environmental due diligence that provides liability protection under CERCLA. In contrast, RSRA and TSA reports are limited in scope and function strictly as screening tools.
The TSA report requires completion of a two-part questionnaire. Part A is completed by the property owner or knowledgeable user or occupant, and Part B is completed by the Environmental Professional. The assessment also includes a site visit, regulatory records review, key personnel interviews, and limited historical research. Due to this expanded scope, a TSA typically requires more time to complete than an RSRA.
If a TSA identifies potential environmental conditions (PECs), such as historical uses including dry cleaners, foundries, gas stations, or other operations identified on the SBA’s NAICS codes list of Environmentally Sensitive Industries that were onsite or could potentially impact the subject property, escalation to a Phase I ESA is typically required; in certain cases, such as proceeding directly from a TSA to a Phase II Environmental Site Assessment (which involves sampling of soil, groundwater, or vapor to confirm the presence or absence of contamination), prior SBA approval may be required.
Aside from the Phase I ESA, the TSA is the only other environmental due diligence product governed by an ASTM standard. However, because it adheres to an alternative standard, the TSA does not meet the requirements of the EPA’s All Appropriate Inquiry and does not provide CERCLA liability protection.
Due Diligence Assessment Reports as a Part of Comprehensive Environmental Policy
For either of the above-described reports, if a significant environmental concern is identified by the consultant during the assessment and records review process, the evaluation may be elevated to a more comprehensive report, such as the Phase I ESA. Prior to engaging in the due diligence process, consider if the consultant will credit the cost of limited environmental assessments toward a Phase I ESA if the report comes back high-risk or with Potential Environmental Concerns (PECs). If not, the client may end up paying twice. Some firms can only provide desktop reports and are unable to assist when a higher level of due diligence is needed.
Another consideration is that while the lowest level of environmental reporting that requires an SBA Appendix 5 Reliance Letter and Certificate of Insurance is a TSA, clients often request reliance letters for RSRA reports as well. Due to its limited, non-ASTM scope, SBA guidelines state that an RSRA “need not be addressed to the SBA and need not be accompanied by a Reliance Letter.” However, upon client request, consultants may include additional users in the addressing of the final report.
Following the SOP 50 10 update in 2019, the SBA clarified that when an environmental consultant recommends proceeding directly from a TSA to a Phase II ESA, and this is agreed upon by the Lender, the Lender must seek in advance a case-by-case policy exception from the SBA Environmental Committee.
Selecting the appropriate level of environmental due diligence at the outset can help streamline the transaction, reduce costs, and avoid delays. Working with an experienced environmental consultant familiar with SBA guidelines is critical to ensuring compliance and a successful closing. A qualified firm can provide guidance, resources, and timely, high-quality reporting to help facilitate a successful transaction.
