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   ARTICLE   |   From Scotsman Guide Commercial Edition   |   November 2010

The SBA’s New Standard

The latest standard operating procedure makes changes to environmental due diligence

The SBA’s New Standard

The U.S. Small Business Administration’s (SBA’s) revised standard operating procedure — SOP 50-10 5(C) — took effect this past Oct. 1. Within its provisions are several modifications to the SBA’s environmental due-diligence requirements.

In today’s tightened credit markets, SBA lending is increasing, and commercial mortgage brokers with small-business clients must know the latest rules. This means understanding the environmental due-diligence requirements for SBA loans — which are more rigorous than standard due-diligence practices — as well as the importance of working with environmental consultants who meet the SBA’s professional qualifications.

Changing due diligence

In August 2008, the release of the first version of SOP 50-10 (5) changed how lenders conducted environmental due diligence before extending credit on commercial real estate. Traditionally, bank policies based the determination of whether a particular commercial real estate loan warranted a Phase I environmental site assessment on loan size.

The SBA’s SOP acknowledged that environmental risk does not recognize loan size. A property’s past use as a gas station or dry-cleaner operation has the potential to impact the collateral behind a small loan just as easily as a large one. Instead of making a decision based solely on loan size, the SOP identified three main triggers for a Phase I environmental site assessment: 1. a property’s current or past use in an industry identified as “environmentally sensitive”; 2. a recommendation for further investigation in a transaction screen; or 3. a records search with risk assessment that determines a property has a high or elevated risk for contamination.

There are thousands of properties that house — or once housed — gas stations or dry cleaners. Given the close correlation between these types of operations and potentially costly soil or groundwater contamination, the SBA policy has special provisions that go beyond a Phase I environmental site assessment to thoroughly assess the extent of any contamination upfront.

The impact of the SBA’s new environmental policies expanded beyond the 7(a) and 504 loan programs. Shortly after the policy was released, a study showed that more than half of financial institutions surveyed planned to adopt the SBA’s tiered approach in their own environmental policies — even for non-SBA loans. The SOP’s release also came at a time when regulators were just starting to ramp up pressure on banks to have solid risk-management practices.

Now, the SBA’s environmental policy has been widely adopted, and regulatory pressures continue. Since early 2008, there have been enforcement actions by federal regulators against almost 1,200 banks. With risk-management policies at the forefront, the SOP provides an approach for all types of lenders to consider in their own environmental due-diligence policies.

The latest changes

With the most-recent SOP changes, the SBA revised its environmental policies and procedures in response to experience in the marketplace, as well as feedback from SBA lenders and environmental professionals. There are several notable changes to the policy.

First, Appendix 4 of the SOP identifies the North American Industry Classification System (NAICS) codes that the SBA considers “environmentally sensitive” industrial classifications. SBA lenders must make a good-faith effort to determine the appropriate NAICS codes for a property’s current and known prior uses. If there is a NAICS-code match, the environmental investigation must begin with a Phase I environmental site assessment. The only modification in the NAICS-code list was to clarify that “laundry [and] dry cleaning services” applies not only to current operations, but also “if dry cleaning operations have ever existed on site."

For loans of $150,000 or less, if the environmental questionnaire determines that further investigation is warranted, the SBA policy now states that the lender must obtain a records search with risk assessment by a qualified environmental professional. This replaces the previous requirement for a transaction screen.

Within the requirements for gas-station loans outlined in Appendix 5 of the SOP, the SBA no longer limits the conducting of Phase I environmental site assessments to professional engineers or professional geologists. If a Phase II assessment is required, however, the lender can only rely on the expertise of environmental professionals with current professional engineer’s or professional geologist’s license and three years of relevant experience. This requirement also applies to any Phase II environmental site assessment for on-site dry-cleaning facilities.

Working with the SOP

Even after two years, the SBA’s environmental policies still are not widely understood in the market. These provisions take more time. They take more expertise and — in some cases involving loans on gas stations, dry cleaners, and certain daycare centers or residential facilities — they go beyond standard environmental due-diligence practices.

The SBA, as part of its environmental policies, adopted the U.S. Environmental Protection Agency’s (EPA’s) prescriptive qualifications for environmental professionals, as set forth in the All Appropriate Inquiries rule. This rule has become a widely accepted set of education, training and experience requirements for individuals to demonstrate that they have the professional judgment needed to develop opinions about a property’s potential for environmental risk. The SBA’s SOP 50-10 5(C) is clear that the requirements for the records search with risk assessment, transaction screen and Phase I environmental site assessment cannot be satisfied if the individual doing the investigation does not meet the federal definition of “environmental professional."

With the new SOP in effect, mortgage brokers should ensure their small-business clients are aware of the new requirements, understand the latest environmental due-diligence provisions and rely on the expertise of environmental consultants who meet the SBA’s robust professional qualifications. 


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