Property management

Reduce Mold-Related Risk

Rewrite Transaction Documents to Include Protection Against Mold Liability.

Since Jan. 1, 2000, more than 8,000 “toxic” mold stories have appeared in the media, according to the Insurance Information Institute. Many of them focus on dramatic personal injury and property damage claims attributed to allegedly harmful mold in buildings. In one of the most publicized cases, a jury awarded a Texas homeowner $4 million for mold-related problems.

That large settlement raised the bar for mold-related litigation. Although the majority of claims involve residential properties, experts predict commercial real estate properties — especially apartment buildings — are the next mold litigation frontier. For instance, a class-action lawsuit against a New York apartment building landlord recently was settled for $1.2 million, and the owner agreed to spend $25 million more to clean up the property. An estimated 10,000 mold lawsuits currently are pending, many of which may result in significant cash settlements.

Clearly, commercial property owners and managers are aware of the problem. Mold was the No. 2 concern of respondents to the National Association of Industrial and Office Properties Vital Signs survey, second only to terrorism insurance.

Many in the industry compare this to the asbestos problems that affected buildings during the 1980s. But unlike asbestos, no federal or state standards of acceptable levels of mold exist. This lack of legislative regulations has helped create a new category of due diligence in commercial property sales and leasing. Sellers, buyers, landlords, and tenants should consider including mold-related provisions in their commercial real estate transaction documents to minimize the risk of future property and personal injury damages.

The Fungus Among UsNot surprisingly, the term toxic mold is a media-coined phrase. Mold, classified as a fungus, is not poisonous, although it can be a health risk for certain people. Several types of mold produce mycotoxins, which are potent substances that may become harmful if released into the air indoors. Dangerous allergenic molds, such as penicillium and aspergillus, are found in some buildings, and certain types of mold can aggravate asthma and other specific health conditions. But no scientific link exists between mold and other illnesses, according to the Centers for Disease Control.

Prevention is the first defense against mold for building owners and landlords. Mold requires only moisture, oxygen, and food, such as building materials, to grow indoors, so the easiest way to prevent mold is to make sure water stays in its place. Just as serious as catastrophic events such as floods, fires, and sprinkler malfunctions are problems like slow leaks, poorly designed heating, ventilation, and air conditioning systems, roof defects, or decaying bathroom fixtures. All produce unwanted moisture that can result in mold and potentially serious health problems. Well-designed and -implemented maintenance and repair programs can alert building managers to problems before the mold growth becomes an issue.

Yet mold is so prolific that even the most stringent prevention measures may not be enough. To manage the risk of mold claims and litigation, all parties in commercial real estate transactions should conduct thorough due diligence when buying, selling, or leasing properties.

Re-Examining Due DiligenceBasic transaction documents such as purchase agreements, mortgages, and leases include standard clauses on environmental issues. Typically, these clauses refer to hazardous substances as defined in specific federal statutes such as the Comprehensive Environmental Response, Compensation, and Liability Act or by the Occupational Safety and Health Administration, and use limits set forth in the law as benchmarks. This is a helpful framework, but it should be re-examined to cover mold concerns, since no mold-specific statutes, regulations, or exposure limits exist.

Phase 1 Audits. During the last 20 years, the phase 1 environmental audit has become as routine in property due diligence as a title commitment and survey. A traditional phase 1 audit often is based on voluntary standards promulgated by the American Society for Testing and Materials. While ASTM has issued standards for asbestos, lead, and indoor air quality, it has not yet set forth audit standards for mold.

In other words, parties should not assume that phase 1 audits cover mold. They do not. Buyers and sellers need to rely on their own environmental consultants to develop appropriate inspection and analysis criteria relating to the scope of due diligence focused upon mold issues. Testing for the presence of mold and mycotoxins may involve sampling affected and non-affected areas of a building in comparison to the outdoor air. Testing techniques may include swabbing hard surfaces and air sampling. However, results of these tests can be contentious, as mold and mycotoxin levels can vary considerably from one geographic area to another and even from one time of day to another. Due to a lack of scientific consensus on harmful exposure levels, a conclusion that certain test results indicate a harmful condition may be debatable.

Disclosure. With the sudden acceleration of mold litigation, buyers likely will require additional due diligence addressing mold concerns. This may include requests for mold-related disclosures and invasive physical inspections to determine if a mold problem exists.

Unfortunately, federal and state governments have been slow to address mold disclosure requirements. The U.S. Toxic Mold Safety and Protection Act of 2002 currently is being reviewed by Congress. The act provides for establishment of a mold insurance program and tax credits for part of the expense a taxpayer incurs to inspect and abate mold. It also directs the Environmental Protection Agency, the CDC, and the National Institutes of Health to set maximum mold exposure levels and standards for mold inspection, testing, and remediation.

California currently is the only state to require disclosure of mold presence by sellers and lessors of commercial property, but it has yet to set exposure standards and guidelines for mold remediation. Washington and New Jersey require dissemination of information to residents about health-related impacts due to mold. Additional states, including Indiana and New York, have legislation pending.

Until legislative direction is in place, sellers should be prepared for buyers' questions about mold, including any health-related complaints. These also may include questions about HVAC systems, roof leaks, and air quality.

Representations and Covenants. Transaction documents often may include representations or covenants regarding compliance with applicable laws, plus specific provisions regarding environmental laws. However, traditional language probably won't capture mold issues because of the lack of federal and state regulations. Accordingly, if a buyer asks a seller to represent that the property complies with applicable laws, mold likely will slip through the cracks.

In fashioning a contractual representation or disclosure form to address mold, buyers should seek disclosure of known mold buildup or health-related complaints. However, it is not practical to presume that no mold is present, as most buildings likely have some mold — albeit not necessarily one of the molds suspected of causing health problems.

Instead of using “compliance with applicable laws” or “no mold” language, buyers should tailor covenants and representations to include the history of circumstances that might indicate mold issues are lurking. These include:

  • water intrusion problems, as well as knowledge of mold occurrences;
  • air-quality monitoring or testing;
  • repair and maintenance efforts; and
  • health-related complaints, responses, and any aftermath.

Accurate responses on the seller's part will permit the buyer to better assess the investment risk.

Similarly, when writing lease covenants, a simple requirement to comply with applicable laws probably won't adequately cover a mold problem. The documents instead should focus on proper maintenance and repairs conducted in a timely manner.

Just as tenants expect landlords to provide accurate information about a building's condition, landlords should include an obligation for tenants to promptly notify them of any mold or water problems. Early notification allows the owner or landlord to manage risk, providing the opportunity to insist upon a prompt response to potential mold issues, and may help the landlord's position if the tenant later makes any mold-related claims.

Structural vs. Non-Structural Repairs.

In some leases, the landlord and tenant split the responsibility for maintenance and repairs. In such instances, leases should make clear which party is responsible for the consequences of events that may lead to mold problems, such as roof leaks, broken pipes, or HVAC problems. Clarification may circumvent future debate over whether fixing the ensuing water or mold damage is a structural or non-structural repair.

Additional covenants may be required if a lease permits tenants to make renovations to the space, since such alterations can impact air circulation or bring new material that is more conducive to mold growth into the building.

Even in triple-net leases it is advisable for landlords to specify tenants' levels of responsibility for mold-related claims, just as landlords would specifically shift the risk of environmental claims to tenants.

Inspection. Sellers and landlords often need to decide to what extent they want to provide representations about the condition of their premises. One frequent trade-off for limited representations, or disclaimers of any representations, is permission for the buyer or tenant to make its own inspection of the premises. Since mold issues may not be readily apparent, buyers and tenants may want to conduct invasive inspections, which can include peeling back wallpaper, looking above drop ceilings, pulling up carpet, or checking behind walls. Accordingly, the seller should be notified in advance of the buyer's inspection plans. If invasive inspections are approved, the seller most likely will want the buyer to be responsible for repairing any damage caused by the inspections. Additionally, a seller's representative should be present for any inspections, with authorization to halt or defer the proceedings if appropriate. Finally, sellers or landlords should require copies of inspection reports and written confirmation of the buyer's or tenant's acceptance of the property's condition.

If the building has not yet been constructed, prevention starts with due diligence at the construction stage. Inspections by the architect, owner's representative, construction management company, or other knowledgeable professionals can help avoid mold issues at a later date.

Selection of Consultants. If mold is found during an inspection, appropriately trained and experienced consultants should be selected to conduct any necessary testing.

Avoiding Mold-Related LitigationMold-related problems in commercial properties sometimes are characterized as a variant of sick building syndrome. There are numerous cases of multiple complaints arising from airborne contaminants carried throughout modern air-conditioned buildings that are designed to allow little air leakage. Although such tight construction is intended to conserve energy, some experts think that the use of building techniques to eliminate leaks, including windows that cannot be opened, can exacerbate the spread of contaminants.

And, rumors of health-related complaints can spread to the evening news faster than mold can grow, whether or not there is any connection between the environment and the symptoms. Sometimes complaints, or a series of them, may simply mean a HVAC duct needs cleaning. Sometimes they signal a more serious, more expensive problem. In either case, a prompt investigation by properly skilled personnel is a good idea.

Landlords also should be attentive and responsive to tenant complaints. Building personnel should be trained to receive and log complaints and to treat them with appropriate seriousness. Especially if multiple complaints arise, communicating to tenants what is being done to investigate and when results of the investigation are expected is helpful in allaying concerns.

Understanding mold issues is essential to protect against mold-related claims when conducting commercial real estate transactions. Basic transaction documents, such as purchase agreements and leases, need to address these new issues. Due diligence procedures take on new meaning as well, if litigation is to be avoided.

Unfortunately, current law offers little guidance for determining the outcome of mold litigation cases. However, it is certain that the number of these cases will increase and that commercial real estate professionals and their clients need to develop successful strategies to deal with the very real threat of being sued in a mold case.

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