Dimension 6 - 128-147 PDF

DIMENSION 6 - 128 NOTES: Confirming bank and issuing bank (not included in the documentary letter of credit flow diagram): A confirming bank takes on the same obligation as an issuing bank. A confirming bank is required by a beneficiary when it is not satisfied with letters of credit issued by the i...

DIMENSION 6 - 128 NOTES: Confirming bank and issuing bank (not included in the documentary letter of credit flow diagram): A confirming bank takes on the same obligation as an issuing bank. A confirming bank is required by a beneficiary when it is not satisfied with letters of credit issued by the issuing bank. This can occur if the issuing bank is too small relative to the size of the transaction, or the issuing bank has a bad reputation with regard to honoring its letter of credit obligations. By confirming a credit, a confirming bank becomes directly obligated on a letter of credit to the extent of its confirmation as though it were the issuer and acquires the rights of the issuer. The confirming bank obtains reimbursement from the issuing bank after a drawing is made under the letter of credit. Advising bank: The advising bank assumes no liability except for accurate transmission of information between the beneficiary and the issuing or confirming bank. DOCUMENTATION REQUIREMENTS A letter of credit is usually issued by your international department. It must be in writing and signed by the issuer. A telegram is considered the operative letter of credit if it identifies its sender by an authorized authentication. However, a teletransmission is not considered a signed letter of credit if it states “details to follow” or words to that effect. CRC US Body of Knowledge The following forms must be completed for a letter of credit to be issued: An application and an agreement for a letter of credit prepared by the customer. It usually contains language equivalent to that in a promissory note. If so, no note is needed. A letter of credit prepared by your international department. DIMENSION 6 - 129 An Amendment to Letter of Credit must be completed by the customer requesting the letter of credit and signed by the issuing bank and the beneficiary. ASSIGNMENT OF LETTER OF CREDIT RIGHTS If you are taking an assignment of the beneficiary’s rights under the letter of credit as collateral, you must perfect that security interest by gaining control of the rights. Establish control over the letter of credit rights by obtaining the consent to the assignment of the issuer or any nominated person, such as a confirming or negotiating bank. The consent of all such persons should be obtained Standby Letters of Credit/Direct Pay Letters of Credit A standby letter of credit or a direct pay letter of credit is a written engagement between a customer and the lender. It provides that the lender will honor demands by a third party for payment upon the third party’s compliance with specified conditions. The fewer conditions, the better. The strongest letter of credit would be one requiring only a demand for payment. It is issued on behalf of a customer in lieu of a guarantee to protect a third party in the event the customer fails to perform under a contract between the customer and the third party. It is the only method by which a United States bank may legally substitute its credit for that of another party. Payment is made against a written statement from the third party of the customer’s failure to perform. Usually, the issuer does not expect to fund a standby letter of credit. Example: A construction company applies for a standby letter of credit that acts as a performance bond in case the construction company fails to complete the work on time or as detailed in the work specifications. NOTES: Dimension 6 // Identify Repayment Sources and Appropriately Structure and Document Credit Exposures for.. TO AMEND A LETTER OF CREDIT DIMENSION 6 - 130 NOTES: PARTIES TO THE ARRANGEMENT Account Party The account party is the customer applying for a letter of credit. The account party agrees to pay the issuer a fee for this service and to immediately reimburse the issuer for payment made under the letter of credit. Issuer The issuer is the party issuing a letter of credit. Beneficiary The beneficiary is the party in whose favor the credit is issued. Confirming bank A confirming bank is a bank that undertakes the same obligations assumed by the issuer. This may be required when the issuer bank is for some reason not acceptable to the beneficiary. Advising or notifying bank An advising or notifying bank is usually a bank or other financial institution at the beneficiary’s place of business that undertakes responsibility for transmission of information and the authentication of information. CRC US Body of Knowledge Paying bank A paying bank is a bank or other financial institution in the beneficiary’s locality that is designated to issue payment when the issuer and the beneficiary are at some distance. Often the paying bank is also the advising bank. Transferee or assignee A transferee or assignee is a party to whom the beneficiary has transferred or assigned the right to perform all or some of the conditions of the credit and to demand and receive all or some of the payments. DIMENSION 6 - 131 If you are taking an assignment of the beneficiary’s rights under the letter of credit as collateral, you must perfect that security interest by gaining control of the rights. Establish control over the letter of credit rights by obtaining the consent to the assignment of the issuer or any nominated person, such as a confirming or paying bank. The consent of all such persons should be obtained. SUBORDINATION AGREEMENTS A subordination agreement is an agreement between two or more creditors. In structuring a loan transaction, you may encounter creditors whose claims are senior to your claims. These claims must be subordinated to your claims in order to assure that you will have first right to payment. A subordination can pertain to either an existing debt or to a collateral position. Other creditors may include: Principals of the borrower who have injected capital into the borrowing entity in the form of loans rather than equity. A venture capitalist or other third party whose investment is represented, in part, by debt rather than by some form of equity instrument. A creditor who has claimed and perfected a lien position against the business assets. Subordination agreements dealing with debt differ as to what, if any, payments will be permitted during the term of your debt. The agreement may do any of the following: Prohibit all payments on the subordinated debt until your debt has been repaid in full. Permit scheduled payments of interest only on the subordinated debt until there is an event of default, then prohibit all payments until your debt has been repaid in full. Permit scheduled payments of principal and interest on the subordinated debt until there is an event of default, then prohibit all payments until your debt has been repaid in full. Subordination agreements dealing with collateral may cover all of or only a portion of the subordinating creditor’s collateral position. NOTES: Dimension 6 // Identify Repayment Sources and Appropriately Structure and Document Credit Exposures for.. ASSIGNMENT OF LETTER OF CREDIT RIGHTS DIMENSION 6 - 132 NOTES: INTERCREDITOR AGREEMENTS An intercreditor agreement is an agreement between two or more creditors. In structuring a loan transaction, you may encounter creditors whose claims are equal to or senior to your claims. For example, you may be providing floor plan financing for an automobile dealership that is also receiving new vehicle financing from a manufacturer. These split-financing arrangements can result in expensive court battles unless agreement on collateral rights is reached among the competing creditors. The intercreditor agreement should describe specifically the collateral financed by each creditor. It should also provide that each creditor would have a senior position as to collateral financed by that creditor, even if that creditor had perfected its security interest later in time than other parties to the agreement. The agreement should also provide for distribution among the secured parties in the event of bankruptcy or other insolvency proceedings. You should have intercreditor agreements drafted or reviewed by your legal counsel. REGULATORY COMPLIANCE Financial institutions deal with many state and federal regulations. Compliance is critical. Those that affect the documentation process include the following: Regulation B (Equal Credit Opportunity Act). Regulation U (Stock-Secured Loans). Regulation O (Financial Institutions Regulatory Reform and Interest-Rate Control Act). CRC US Body of Knowledge Community Reinvestment Act (CRA). DIMENSION 6 - 133 The Equal Credit Opportunity Act is a federal law passed in 1975. It prohibits discrimination based on race, color, religion, sex, marital status, national origin, age (if an adult), receipt of income from a public assistance program, or the good faith exercise of any rights granted under the Consumer Credit Protection Act. The Federal Reserve Board has implemented these prohibitions through Regulation B. IMPLICATIONS FOR LOAN DOCUMENTATION GUARANTEES Ten states—Alaska, Arizona, California, Idaho, Louisiana, Nevada, New Mexico, Texas, Washington, and Wisconsin—use some form of the community property system to determine the interest of a husband and wife in property acquired during marriage. Under the community property system, the general rule is that all property acquired during the marriage is community property, owned one-half by each spouse. Property received by inheritance or gift and property owned before marriage is separate property. If an applicant requests unsecured credit, federal law permits requests for a guarantee from a spouse if reasonably believed by the creditor to be necessary under applicable state law to make the community property available to satisfy the debt in the event of default, and, either: The applicant lives in a community property state, or The property upon which the applicant is relying to demonstrate creditworthiness is located in a community property state. Two additional conditions must be met. Under the creditor’s standards of creditworthiness: Applicable state law must deny the applicant power to manage or control sufficient community property to qualify for the amount of credit requested. The applicant cannot have sufficient separate property to qualify for the amount of credit requested. In non-community property states, that is, states other than the 10 listed above, Regulation B prohibits requests for a guarantee from a spouse. Requests for guarantees from non-discriminatory defined categories such as “all partners, directors, officers, and 20% or greater shareholder” are permitted. NOTES: Dimension 6 // Identify Repayment Sources and Appropriately Structure and Document Credit Exposures for.. REGULATION B (EQUAL CREDIT OPPORTUNITY ACT) DIMENSION 6 - 134 NOTES: If that does not result in sufficient support for the credit, you may request “more creditworthy co-guarantors,” but still may not require spouses as co-guarantors. You may accept them if volunteered. If your state is a community property state, review the laws and identify what restrictions apply to executing judgments against and pledging of community assets. Obtain signatures on guarantees and collateral documents as dictated by the laws in your state. Consult with your legal counsel. SECURED CREDIT AND CO-OWNERS If collateral is jointly owned with a non-applicant, and the applicant’s interest in the collateral is insufficient in relation to the amount of the loan, you should obtain the co-owner’s signature on the security documents. This is not a violation of Regulation B. The co-owner’s signature must not be obtained on the promissory note unless the coowner is a co-applicant. Civil penalties for violation of Regulation B Up to $10,000 in individual suits. CRC US Body of Knowledge The lesser of $500,000 or 1% of the bank’s net worth in class action suits. DIMENSION 6 - 135 Regulation U is a federal regulation intended to protect the national economy and individual investors by preventing excessive speculation on credit in the stock market. It limits the credit any bank may extend when margin stock is used as security for the purpose of purchasing additional margin stock. This type of loan is called a regulated loan. The amount of credit may not exceed the “maximum loan value” of the margin stock securing the loan. The current maximum loan value, as set by the Federal Reserve Board, is 50% of the market value of the security. DEFINITION OF MARGIN STOCK Margin stocks are: Stocks registered on a national securities exchange—New York Stock Exchange, American Stock Exchange, or NASDAQ—or that are on the Federal Reserve Board’s marginable list of OTC stocks. Debt securities (bonds) that are convertible into margin stocks. Any over-the-counter security designated as qualified for trading in the National Market System (NMS Security) under a designation plan approved by the Securities and Exchange Commission. Shares of mutual funds, unless 95% or more of the assets of the fund are continuously invested in U.S. government, state, or municipal obligations REQUIREMENTS FOR DOCUMENTATION A Federal Reserve Form U-1 (Statement of Purpose for an Extension of Credit Secured by Margin Stock) must be completed when a bank extends credit in excess of $100,000 secured directly or indirectly, in whole or in part, by any margin stock. The Lost and Stolen Securities Act requires you to telephone the Securities Information Center at 617-235-4570 to inquire whether securities valued in excess of $10,000, that are proposed as collateral, have been reported lost or stolen. You must keep a log of all such calls. NOTES: Dimension 6 // Identify Repayment Sources and Appropriately Structure and Document Credit Exposures for.. REGULATION U (STOCK-SECURED LOANS) DIMENSION 6 - 136 NOTES: REGULATION O (FINANCIAL INSTITUTIONS REGULATORY REFORM AND INTEREST-RATE CONTROL ACT (FIRA) The Financial Institutions Regulatory Reform and Interest Rate Control Act (FIRA) is a federal law passed in 1978 that pertains to insider loans. The Federal Reserve Board has implemented it through Regulation O. The regulation and the act prohibit extending credit to insiders or their related interests unless it is on substantially the same terms as those prevailing at the time for comparable transactions with other persons and does not involve more than normal risk of nonpayment. There are individual and aggregate lending limits as well as periodic reporting requirements for insider loans. Insider is defined as an executive officer, director, principal shareholder (10%) of the financial institution or parent holding company or any other subsidiary of the parent (except subs of the institution) and any related interest. In determining whether a person is a 10% shareholder, an institution must aggregate the holdings of the individual, the individual’s spouse, minor children of the individual and any adult children of the individual residing with that individual. Related interest is defined as any business entity or trust in which an insider directly or indirectly or acting through or in concert with one or more persons meets one of the following conditions: Owns, controls, or has the power to vote 25% or more of any class of voting securities. Controls in any manner the election of a majority of the directors. Has the power to exercise a controlling influence over the management or policies of the company. CRC US Body of Knowledge Is an executive officer or director and in which he or she directly or indirectly owns, controls, or has the power to vote more than 10% of any class of voting securities. Directly or indirectly owns, controls, or has the power to vote more than 10% of any class of voting securities of the business entity and no other person owns, controls, or has the power to vote a greater percentage of that class of voting securities. Any political or campaign committee that is controlled by an insider or the funds or services of which will benefit an insider is also a related interest. DIMENSION 6 - 137 Your institution must keep records of requests for credit by insiders and your response. (All credit to insiders must be approved in advance by the board of directors with any interested party abstaining, directly or indirectly, in the voting.) Upon written request from the public, you must disclose the names of all executive officers and principal shareholders (10% or more) whose total debt to your institution during the last quarter is equal to or in excess of 5% of your institution’s capital and unimpaired surplus or $500,000. Upon written request from the public you must disclose the names of all executive officers and principal shareholders (10% or more) whose debt to the institution’s correspondents any time during the preceding calendar year is equal to or in excess of 5% of your institution’s capital and unimpaired surplus or $500,000. No disclosure is required if the total debt is under $25,000. CIVIL PENALTY The civil penalty for violation of Regulation O is $1,000 per day against the institution and any director, officer, employee, or other person participating in the violation. For any violation of any federal banking law or regulation (or of any order, agreement, or memorandum of understanding) except the Community Reinvestment Act, a federal bank regulatory agency may assess civil money penalties against the institutions it regulates. (The Comptroller of the Currency can assess them against national banks, the Federal Reserve against state member banks, the FDIC against state nonmember banks and the Office of Thrift Supervision against thrifts). Depending on the number and type of the violations found, the penalties range from $5,000 to $1 million, and can be assessed per violation, per day the violation existed and per person involved. NOTES: Dimension 6 // Identify Repayment Sources and Appropriately Structure and Document Credit Exposures for.. IMPLICATIONS FOR LOAN DOCUMENTATION DIMENSION 6 - 138 NOTES: COMMUNITY REINVESTMENT ACT (CRA) The Community Reinvestment Act is intended to encourage depository institutions to help meet the credit needs of the communities in which they operate, including low- and moderate-income neighborhoods, consistent with safe and sound banking operations. It was enacted by the Congress in 1977 (12 U.S.C. 2901) and is implemented by the Federal Reserve Board’s Regulations 12 CFR parts 25, 228, 345, and 563e. The CRA requires a periodic evaluation of each insured depository institution’s record in helping meet the credit needs of its entire community. That record is taken into account in considering an institution’s application for deposit facilities, including mergers and acquisitions. CRA examinations are conducted by the federal agencies that are responsible for supervising depository institutions: the Board of Governors of the Federal Reserve System (FRB), the Federal Deposit Insurance Corporation (FDIC), the Office of the Comptroller of the Currency (OCC), and the Office of Thrift Supervision (OTS). Examiners assess the CRA performance of a bank in an examination as follows: Lending, investment, and service tests. The examiner applies lending, investment, and service tests in evaluating the performance of a financial institution. CRC US Body of Knowledge –– Lending test. The lending test evaluates an institution’s record of helping to meet the credit needs of its assessment area(s) through its lending activities by considering an institution’s home mortgage, small business, small farm, and community development lending. If consumer lending constitutes a substantial majority of an institution’s business, the examiner will evaluate the institution’s consumer lending in one or more of the following categories: motor vehicle, credit card, home equity, other secured, and other unsecured loans. –– Investment test. The investment test evaluates an institution’s record of helping to meet the credit needs of its assessment area(s) through qualified investments that benefit its assessment area(s) or a broader statewide or regional area that includes the institution’s assessment area(s). Activities considered under the lending or service tests may not be considered under the investment test. –– Service test. The service test evaluates an institution’s record of helping to meet the credit needs of its assessment area(s) by analyzing both the availability and effectiveness of a bank’s systems for delivering retail financial services and the extent and innovativeness of its community development services. DIMENSION 6 - 139 Small institution performance standards. The examiner applies the small institution performance standards as provided in evaluating the performance of a small institution or an institution that was a small institution during the prior calendar year CLOSING PROCEDURES There are two main factors that determine whether a loan closing will be successful. They are: Adequate preparation prior to the closing Firm management of the actual closing process. To adequately prepare for a closing, you or your support staff must: Prepare a closing memorandum or detailed loan documentation checklist. Provide sufficient time for the borrower and any other parties involved in the transaction to gather documents. Provide the borrower and any other parties instructions on how to complete standard documents and ensure that they return the forms to you for review prior to the closing. Prepare drafts of loan documents and deliver them to the borrower or other involved parties prior to the closing with sufficient time for the recipients to have the documents reviewed by their own legal counsel. Submit any document changes requested to your legal counsel for review to determine whether making the requested changes would have legal consequences. Submit documents such as operating agreements, partnership agreements, and trust agreements to your legal counsel for review and opinion. Set a date and time for closing that provides time for preparation and attendance by all necessary parties. Provide a sufficient number of copies of each loan document required for closing. NOTES: Dimension 6 // Identify Repayment Sources and Appropriately Structure and Document Credit Exposures for.. Community development test for wholesale or limited purpose institutions. The examiner applies the community development test for a wholesale or limited purpose bank. DIMENSION 6 - 140 NOTES: Good management of the closing process requires that the closer: Select an appropriate location for the closing. A good location is a conference room at your institution with a table large enough to permit the closing documents to be sorted into separate stacks, arranged in the order in which they will be approved or signed. Make certain that all of the parties necessary to the closing are gathered in the same place at the same time. Choose a day and time of day that is convenient for all of the parties. If a wire transfer will be included as part of the transaction, make certain that your closing is scheduled early enough to allow for completion of the transfer before close of business. Insist that the borrower and other appropriate parties produce all required documents for which they are responsible before the closing begins. The documents must be reviewed and approved and the documentation checklist or closing memorandum marked accordingly. Make certain that all necessary parties sign all of the documents that require execution, and that portions of documents that require initials of the parties are properly initialed. Assure that each executed document is reviewed for completeness and accuracy. Where staffing permits, one person should facilitate the circulation of documents to the signers and another examine each document after it has been signed. Make certain that appropriate disbursement procedures have been followed. This may involve obtaining wire instructions, cashier’s checks, or the completion and delivery of account deposit slips. CRC US Body of Knowledge Make certain that all necessary parties stay until all documents have been completed, reviewed and approved. Note: The best time to obtain a complete loan documentation package is prior to disbursement of loan proceeds. It is generally more difficult to correct loan documentation deficiencies after funds have been disbursed and the parties to the closing have left. DIMENSION 6 - 141 Many banks use standard loan documents, which may be prepared by in-house counsel or through the use of an automated loan documentation software product. Each institution has internal guidelines that determine when custom documents must be prepared. Common considerations for custom vs. standard documentation include: Transaction size considerations. Your institution may have a transaction dollar amount above which custom documentation is required. Availability of compliance warranty from standard documents. Some vendors of computer prepared loan document packages provide compliance warranty protection to a certain transaction amount. In other words, the vendor will reimburse the bank for costs incurred to enforce the terms of documents if they are attacked based on the way the loan has been documented. Beyond a maximum transaction size, warranty protection is typically not available, and this protection limit may influence your bank’s designated loan size requiring custom documents. More important, however, is to keep in mind that changes to the standard documentation package outside the scope of built-in, allowable documentation options may void any compliance warranty. If a transaction includes negotiated changes from standard document language, it is vital to check with your bank’s legal counsel to determine if custom documents are required. Ability to pass documentation costs to the borrower. Many banks reserve in-house counsel resources for documentation review instead of documentation preparation. It may be difficult to pass through documentation preparation expense if the work is performed by inhouse counsel. Complexity of the transaction. Standard documents may not be ideal or even adequate if the transaction or the borrowing entity is complex. Certain entity types, such as a complex trust, or transaction elements such as assignments or guarantees from complex entities may require custom documents. Unusual issues such as loans secured by intellectual property may similarly require custom documentation. NOTES: Dimension 6 // Identify Repayment Sources and Appropriately Structure and Document Credit Exposures for.. CUSTOM VERSUS STANDARD DOCUMENTATION DIMENSION 6 - 142 NOTES: Sophistication of the borrower. Sophisticated borrowers that will have an attorney represent them may make negotiation of loan document language a deal breaker. If that is the case, it can be dangerous for the bank to have the lender alter standard documents. Customized documentation is generally the safest response to such a borrower request. Bank’s ability to service non-standard documents. Often, banks’ loan servicing organizations are configured to support standard loan requirements as documented in the standard loan agreement. If custom servicing provisions are negotiated (such as an unusual window of time to submit financial statements or an unusual cure period for a loan covenant), the bank must have procedures in place to deviate operationally from the standard provisions. Customdocumenting a loan may introduce enforcement risk if the bank’s servicing department is not flexible enough to consistently and accurately enforce loan document provisions that deviate from the norm. Whether the bank will sell or securitize the loan. Standard documents make it easier to sell, securitize, and participate loan transactions. Non-standard documents may require additional attorney work to package them for these purposes. CRC US Body of Knowledge In all cases, it is critical to understand your institution’s policies regarding the choice of custom versus standard loan documents. You should not alter or agree to alternations of standard documents outside the parameters of pre-approved documentation options without seeking counsel’s advice. DIMENSION 6 - 143 There has been an increased awareness of the need to protect our environment from contamination and ecological harm. Attention is being paid to environmental problems by government, business, and civic groups. Environmental contamination can arise from: Pesticides Poisons Solvents Petroleum products Industrial chemicals Animal by-products and waste Metal fragments Building materials Government authorities, in conjunction with the business community and civic groups, have responded by developing stringent guidelines for handling hazardous substances and other wastes. Severe financial and criminal penalties can be imposed on individuals or businesses found guilty of contaminating the air, land, or water. The costs associated with the cleanup and remediation of a contaminated site can be exorbitant, even to the point of crippling the financial capacity of an individual or business. For this reason, prudent lending practices require that you determine if actual or potential contamination exists on a property that you intend to finance or use as collateral. NOTES: Dimension 6 // Identify Repayment Sources and Appropriately Structure and Document Credit Exposures for.. IDENTIFYING AND MITIGATING ENVIRONMENTAL RISK DIMENSION 6 - 144 NOTES: What if the very nature of a borrower’s business entails working with hazardous substances or creates hazardous material as a by-product of the manufacturing process? Again, most manufacturers and some other industries have some involvement with hazardous materials or by-products from their production process. These companies can still be good customers if you take the following precautions: Your customer should issue an environmental indemnification that states the company is aware it handles hazardous materials and agrees to follow accepted procedures in its handling of those materials. Loan documents should contain an environmental rider that contains similar language and outlines your institution’s remedies in the event your customer violates the accepted procedures. The intent of this section is to help you understand the complexity and severity of environmental issues. Solicit professional help when trying to evaluate the risks of environmental issues and in documenting loans. Several tools are available to help protect your institution against environmental liability. ENVIRONMENTAL AUDIT The environmental audit is one way to help insulate you and your borrower from risk. It alerts all parties to a transaction of the potential for liability. Several levels of review have become accepted practice: A checklist that might be performed by you or by a qualified individual on your institution’s staff. CRC US Body of Knowledge A soil and/or water testing coupled with the documentation of detailed remediation procedures performed by a third-party environmental engineering firm. DIMENSION 6 - 145 Your institution’s credit policy manual should contain an environmental policy that provides a checklist to be completed for all credits (usually above a certain dollar limit) that is placed in the company’s credit file. If your institution doesn’t have an environmental policy, then the Environmental Site Assessment Transaction Screen Questionnaire produced by the American Society for Testing and Materials (http:// www.astm.org/) is recommended for your use. The ASTM Transaction Screen process includes asking questions of owners and occupants of the property, observing site conditions at the property, and conducting limited research regarding certain government records and historical sources. The questionnaire consists of 23 questions plus a corresponding guide to assist you in answering the questions. If, on completion of the Transaction Screen, you have uncovered no suspicion of environmental contamination, further inquiry is probably not warranted. If you are unable to complete the Transaction Screen or answers reveal suspicion of contamination, the next level of inquiry is required. ENVIRONMENTAL AUDITS There are three levels of environmental audits. Phase I Warranted whenever there is reason to suspect contamination, based on a checklist inquiry from your environmental policy or problems in completing the ASTM Transaction Screen discussed above. Phase II Warranted whenever the Phase I assessment indicates evidence of contamination. In this phase, soil and groundwater samples are taken and tested to determine the actual extent of contamination, if any. Phase III Consists of remediation procedures for contamination discovered and confirmed in Phases I and II. The Phase III audit report spells out the full extent of the contamination, what the mitigation procedures must be, and the costs expected to be incurred in the cleanup. NOTES: Dimension 6 // Identify Repayment Sources and Appropriately Structure and Document Credit Exposures for.. CHECKLIST DIMENSION 6 - 146 NOTES: RISKS ASSOCIATED WITH ENVIRONMENTAL LAW INFRACTIONS If you suspect any environmental problems, however minor, solicit professional help! There are two major risks associated with environmental law infractions: Environmental infractions can compromise a borrower’s creditworthiness. Contamination can negate the value of your borrower’s collateral. The following Signals of Environmental Problems: Things to Identify and Consider (SEPTIC) will help you as you visit your customer’s facilities. While you tour a site, ask what substances were or are being used on the property and the by-products from the company’s operations. Keep your mind open to all possibilities, ask lots of questions, and don’t be reluctant to challenge answers. The SEPTIC list is a partial list of environmental prompts which, when accompanied by your organization’s environmental and credit policies, will guide your observations. CRC US Body of Knowledge Financial institutions are often viewed as the deep pockets in a transaction and have been found to be financially responsible for site cleanup expenses by virtue of having taken a security interest in, or financed the acquisition of, a property that was or has become contaminated. You need to be very wary of any transaction that might involve a contaminated property. How do you protect yourself? If a hazard is discovered, you and your borrower can simply choose not to become involved with the transaction. If you choose to pursue a transaction that involves an environmental issue then you must solicit expert environmental and legal assistance. DIMENSION 6 - 147 This card is designed to prompt your thinking about potential environmental hazards. As you visit a site, think through the present and past uses of the location. Ask yourself what substances were used or are being used on the property. Keep your mind open to all possibilities. A partial list of observations and inquiries which you should make is provided below. This list is not all-inclusive and should not be used as a substitute for an environmental assessment. I. Determine whether any past or present use of property involved any of the following: Preservatives, acids, cleaning products, radioactive material, soaps, fungicides, detergents, photographic chemicals, asbestos, chemicals, lubricants, petroleum products, waste oil, solvents, explosives, metals, paint, medical waste, resins pesticides/fertilizers II. Inspect the inside and outside of the property for: A. Hazardous/Toxic Materials : drums or storage containers; evidence of spills , stained/discolored surface areas, “stressed” or dead vegetation, foam insulation, wells, pits, ponds, or dumpsites, unusual heaps, mounds, depressions, or sinkholes, below ground storage tanks/manholes/fill pipes, pipelines/capped wells, above ground storage tanks, incinerators, possible radon emissions (inquire), landfills/junkyards B. Asbestos: If constructed before 1979, presence of asbestos in a building is highly likely; Asbestos ceiling, pipe, boiler insulation; If found, is it friable, flaking, or damaged? C. PCBs: Examine electrical equipment, transformers, capacitors; Look for yellow identification labels; Look for evidence of leakage D. Air Emissions: distinctive chemical odors; visible discharge of smoke, vapors; possible odorless or colorless emissions (inquire) E. Water Pollution: waste treatment facility on site; ponds with colored water or “sheens’; pipelines, sewer connections; inspect discharge III. Establish whether the company is located in or near the following specially designated areas: endangered species’ habitats; special groundwater districts; wetlands; scenic river areas Be sure to look over nearby properties for potential problems such as those listed above. Do not forget to check for drainage to or from adjacent properties. It may be helpful to review your preliminary findings with management/owners. Compare your findings with your bank’s environmental checklist and policy to determine whether a Phase I environmental assessment will be required. A PHASE I ENVIRONMENTAL ASSESSMENT Should one or more of the conditions described in items I—III on the reverse side be observed or discovered during your preliminary site visit, a Phase I Environmental Assessment may be warranted in order to determine the magnitude of a potential problem. An assessment is conducted: By a specialized engineering or consulting firm that provides a professional opinion, based on obvious evidence, as to the potential usage, storage, handling, or disposal of materials within the subject property that may be hazardous or toxic or may cause violations of state and/or federal laws, rules, or regulations pertaining to soil and water quality; and To identify potential off-site contaminant sources that may have an adverse environmental impact on the property. If after consulting your bank’s checklist and policy, you decide to contact an environmental professional for these services, be sure to provide a statement of the conditions observed at the site in order to expedite an accurate assessment. An assessment usually includes: 1. A reviewof site maps and historical aerial photographs. 2. A review of records of Property Ownership History (abstract of title is recommended). Also, an historical records review to determine previous uses and tenants. 3. A review of EPA-maintained lists of known hazardous/toxic substance sites and emergency response/remedial action sites within an applicable distance of the site being assessed. 4. A search and review of other local, state, and federal files and lists as appropriate. 5. Visual reconnaissance of the site. 6. Interviews with on-site personnel and neighboring parties to determine the past history of the site (uses and tenants), status of permits, wastewater disposal, on-site wells, and/or other water supply. 7. Description of land usage of all property adjoining the site. 8. Description of the geology relative to potential flow direction of ground water. 9. Preparation of a report presenting the firm’s professional opinion as to the potential for environmental contamination, which could include the following as deemed appropriate: photographs of the site, site maps, surveys, topographical survey, soil survey map, and aerial photographs. An environmental assessment is typically conducted in a phased approach in order to obtain a reasonable perspective on a site’s potential environmental problems. Various levels of effort are used to conduct assessments, yielding varying levels of confidence in assessing the magnitude of an environmental concern. Currently, the scope of an environmental assessment has not been defined explicitly by a federal regulatory agency, but the preceding items are generally considered appropriate first steps in accordance with industry practices. (Some states may have their own guidelines.) The actual scope of an environmental assessment, however, should usually be determined by the environmental professional based on site conditions Dimension 6 // Identify Repayment Sources and Appropriately Structure and Document Credit Exposures for.. Signals of Environmental Problems: Things to Identify and Consider