First Union Corp. of Charlotte, N.C., has begun buying environmental insurance for its commercial real estate loans instead of commissioning assessments by environmental engineers.
The move makes First Union one of the first big national lenders to move away from the Phase I environmental review process, which industry experts say may eventually become obsolete.
Banks can be held liable for environmental clean-up costs, sometimes exceeding the value of the collateral, if they get involved in managing a property. Environmental insurance lets a lender sell the collateral without taking a loss.
Since June, First Union has closed $87 million of loans and approved another $38 million with insurance policies that cover it against defaults related to environmental problems on the properties, said Kathryn Justis, vice president and manager of the bank's environmental policy department.
The loans were all made in Florida, with insurance written by Zurich- American Insurance Cos. through broker Environmental Warranty Inc., West Hartford, Conn.
The bank is negotiating with American International Group through broker Willis Caroon to roll out a similar product in North Carolina and South Carolina, Ms. Justis said.
BankAmerica Corp. has been negotiating since Jan. 1 with United Capital Insurance Co., Atlanta, to buy a blanket environmental policy, United Capital said.
Insurance costs less than environmental assessments, known as Phase I reports, that can run from $1,800 to $2,500. They take three to four weeks to prepare, but a bank can get an insurance commitment in two to three days.
Insurance also gives First Union more comfort. "Phase I did not provide any real protection," said Don Hooper, executive vice president for commercial lending at First Union. "Taking environmental risk is not what I'm trained to do."
Environmental insurance has been around for years but only in the last year has it been sold in bulk to lenders rather than to their borrowers individually.
"It took a while for the marketplace to realize what was driving the business was the lender," said Charles Perry, president of Environmental Warranty. "The borrowers will do whatever the lenders ask them to do."
Loans with environmental insurance will be easier to securitize, Mr. Perry asserted. "If you're going through a couple hundred properties in a pool, if you have blanket coverage in an insurance policy, the only thing you're concerned about is the rating of the insurance carrier."
However, bond rating agencies have yet to approve environmental insurance as an alternative to Phase I reports. And with the commercial mortgage-backed securities market in a slump, an unfamiliar bond might at first prove to be a tough sell, no matter how much sense it might make on paper.
"Right now it's a volatile market, and anything new can kind of spook investors," said Robert Dobilas, an associate in the real estate research group at Donaldson, Lufkin & Jenrette. "Especially now when there's so much product out there it's better to stick to your roots. A traditional conduit deal will probably price better than something new."