Davis v. Agua Sierra Resources, LLC – 1/15/2008

January 22, 2008

Arizona Court of Appeals Division One Holds That Owner Conveying Real Property To Another May Reserve For Itself Any Commercial Groundwater Rights Associated With The Property.

After a long series of transactions and conveyances detailed in the Opinion, the Merwyn C. Davis Trust (“Davis”) came to own the CF Ranch in Yavapai County. A prior owner of CF Ranch, upon selling CF Ranch, had reserved to itself the commercial water rights in the CF Ranch, and eventually, those water rights came to be owned by Agua Sierra. The City of Prescott sought to purchase the water rights from Davis. Recognizing, however, that the reservation of commercial water rights clouded Davis’ ownership of those rights, the City asked Davis to seek to purchase those rights so the City could acquire them.

Unable to negotiate a purchase (or other agreement) from Agua Sierra, Davis sued Agua Sierra seeking a judgment invalidating Agua Sierra’s commercial water rights reservations associated with CF Ranch. Agua Sierra counterclaimed to quiet title in its favor of all commercial water rights associated with CF Ranch. The trial court granted Davis summary judgment, finding that as a matter of law “Arizona does not recognize the reservation of commercial water rights or the right to develop commercial water rights as reserved in the deeds to the property in this case.”

The Arizona Appeals Court vacated the summary judgment award. The Court began by noting the bifurcated system of allocating water rights in Arizona, which differentiates between groundwater (which is not appropriable and may be pumped by the overlying landowner, subject to the doctrine of reasonable use) and surface water (which is subject to the doctrines of prior appropriation and beneficial use). Agua Sierra admitted in oral argument that it made no claim based on appropriable rights (which apply only to surface water), and thus the Court assumed for purposes of its analysis that the reservation of water rights applied only to percolating groundwater and not surface water.

Noting that Davis’ main attack was that Arizona law does not recognize “a water right severed from the land,” the Court cited case law holding that water rights may indeed be severed and transferred apart from the associated real property. A reservation of water rights is a right to use of the water, not an ownership interest in the actual source of the water. This right of use is a property right that must be conveyed by deed. The Court found no authority for the proposition that a right to use water, as an interest in real property, does not fall within the general common law rule that “a grantor has the right to make a reservation of an interest in real property.” The Court added that the legislature is free to limit an owner’s right to sever water rights from the associated real property. For example, the legislature has limited the transferability of some groundwater rights where the appurtenant land is part of an Active Management Area (AMA) as defined by Arizona’s Groundwater Management Act. A.R.S. § 45-401 et seq. However, no such statute applies to real property like the CF Ranch that lies outside an AMA. Finally, the Court rejected Davis’ argument that one who is not currently exercising water rights has no right to exercise those rights in the future.

Presiding Judge Johnsen authored the opinion, with Judges Thompson and Ehrlich concurring.