One of the primary goals of bankruptcy law is to provide debtors with a fresh start by imposing an automatic stay and allowing for claims of reorganizing debtors to be discharged. In environmental law, a primary goal is to ensure that the “polluter pays” for environmental harms. These two goals collide when an entity with environmental liabilities enters bankruptcy. The result is often outcomes that are the exception, rather than the rule, with many unsettled areas of law that can be dealt with by bankruptcy courts in varying ways.

With a close eye on current economic conditions and an increasing focus on bankruptcy and restructuring efforts, debtors, creditors, and purchasers should keep in mind the following key issues when dealing with environmental liabilities in bankruptcy.

Automatic Stay

The commencement of a bankruptcy case triggers an automatic stay that generally prohibits creditors from starting or continuing an action to enforce claims against a debtor or its property. The automatic stay does not extend to a government’s exercise of its police powers. This police power exception can be applied to efforts by a governmental entity to enforce environmental cleanup obligations. It should be noted, however, that environmental enforcement actions are generally stayed where they are pecuniary in nature—i.e., where the government is seeking damages or renumeration for past cleanup efforts.

Dischargeability

A key aspect of the bankruptcy “fresh start” is a debtor’s ability to discharge certain claims upon approval of a plan of reorganization. Generally, only claims that arise prior to the bankruptcy filing can be discharged. Accordingly, a key issue for environmental liabilities is determining whether the claim arose before or after the bankruptcy filing. Certain courts have held that environmental claims arise when the release occurs, whereas other courts hold that the claim arises only when it is foreseeable or “fairly contemplated.”

Where a debtor is subject to remediation obligations pursuant to an injunction, such performance obligations are generally not dischargeable if they relate to ongoing pollution or where remediation is necessary to prevent an imminent harm to human health or the environment. Where obligations relate to past pollution that does not pose an ongoing threat, they are likely dischargeable.

Treatment of fines and penalties imposed by the government can vary. Generally, they are non-dischargeable, but practitioners need to look at relevant precedent from the jurisdiction where the bankruptcy is pending to determine ultimate treatment (including priority) of these claims.

Contaminated Property

The Comprehensive Environmental Response, Compensation, and Liability Act (CERCLA) imposes liability for environmental cleanup on the owner of contaminated property regardless of fault and, as noted above, ongoing cleanup obligations generally cannot be discharged in bankruptcy. The debtor’s options for the contaminated property include the following:

• Retain the property, in which case the debtor will retain the cleanup obligations.
• Sell the property with the purchaser assuming cleanup obligations (requires a willing purchaser).
• Settle with applicable government authorities, which typically requires transferring the contaminated property into a trust that has the financial ability to satisfy future cleanup obligations.
• Abandonment (discussed below)

Abandonment

The Bankruptcy Code generally allows debtors to abandon property that is burdensome to maintain or has no value. In Midlantic Nat’l Bank v. New Jersey Dept. of Envtl. Prot., 474 US 494 (1986), the Supreme Court held that a bankrupt debtor’s ability to abandon contaminated property is limited if the property poses an imminent and identifiable risk to public health and safety.

More recently, in the case of In re Exide Holdings Inc., lower courts pushed the boundaries of the doctrine established by Midlantic by allowing a debtor to abandon contaminated property to state regulators where necessary to complete a comprehensive settlement, where the courts found that the property, although contaminated, did not pose an imminent danger due to ongoing remediation efforts that could be funded with surety funds.

Allowance

Where multiple parties are jointly and severally responsible for cleanup costs, can parties assert claims for contribution or reimbursement against a co-liable party that is in bankruptcy? The answer is generally “yes” where costs were incurred prior to the bankruptcy case or are future costs that are not contingent on the occurrence of a subsequent event. However, contingent claims relating to costs that may be incurred in the future can be disallowed under Section 502(e) of the Bankruptcy Code.

Sales of Assets

Section 363 of the bankruptcy code provides for asset sales free and clear of liabilities of the debtor. Environmental claims against a debtor based upon prior conduct associated with specific property should not follow the property in any bankruptcy sale if there is no ongoing contamination. However, contaminated real property cannot be purchased “free and clear” of CERCLA liability. Accordingly, buyers need to perform adequate environmental due diligence when purchasing property out of bankruptcy, as there are likely to be limited or no indemnities from a seller in bankruptcy.

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