The Small Business Administration (SBA) recently revised its standard operating procedure (SOP 50-10 (5)) for lender and development company loan programs. Many changes are more rigorous than before and will likely require a very careful approach to lending.
New Environmental Due Diligence
NAICS Codes Trigger Due Diligence Requirements at All Levels
The new SOP requires lenders to compare the North American Industry Classification System (NAICS) code for current and past users of the property against a list of 58 NAICS codes the SBA identified as environmentally sensitive industries.
- If there is a match to an environmentally sensitive NAICS code, the SOP requires a Phase I Environmental Site Assessment (ESA) at a minimum.
- If there is no match and the loan exceeds $150,000, the SOP requires an environmental questionnaire, a records search and a risk assessment. These results may trigger requirements for a Phase I ESA.
- Even if there is no match and the loan is below $150,000, the SOP requires an environmental questionnaire at a minimum, which may lead to a transaction screen assessment or a more rigorous Phase 1 ESA.
- All Phase I ESAs must comply with the requirements of ASTM E 1527-05.
SBA Requires Robust Due Diligence On Gas Station Loans
Loans involving gas stations that are more than a year old will require a Phase I ESA. Gas stations that are five or more years old require a Phase II ESA, which typically involves soil and groundwater testing.
Reliance Letters Required for Transaction Screens and ESA Reports
In a reliance letter, the environmental consultant who conducts the ESA or transaction screen assessment must state that the lender and SBA can rely on the given environmental report. The SOP also calls for environmental consultants to have a minimum $1 million errors and omissions insurance policy.
Loans for Properties With Contamination or Ongoing Remediation
The SBA will not approve a loan for a property that is contaminated or that has ongoing remediation unless the risk associated with the contamination is adequately addressed. It identifies eight mitigating circumstances in which it would consider approving a loan despite ongoing remediation or contamination. These include obtaining a “no further action” letter, qualifying for government funding or reimbursement of cleanup costs, securing indemnification by a third party, or escrowing 150 percent of the estimated cleanup cost, among others.
Use of Third Party Environmental Indemnification Agreements
The SOP includes an approved form of indemnification agreement, which the SBA may consider a mitigating measure in loans for contaminated properties. An indemnification agreement must follow the SOP’s approved form and substance and must be executed by a qualified indemnitor, such as the seller or another third party. The SBA also will independently verify the indemnitor’s financial qualifications. A memorandum of the agreement must be recorded in the deed records.
The SBA will not require a full-scale environmental investigation in every property purchase; however, the degree of investigation will depend upon the risk of contamination. Lenders and purchasers should be familiar with the SBA’s new environmental requirements.