In the arid western U.S., property cannot be sold free and clear of disputes over water rights.
Why? Because water rights are not property that someone owns, as Bankruptcy Judge Kevin R. Anderson of Salt Lake City explained in his February 16 opinion.
The debtor owned a 7,000-acre farm in Utah. The owner had several water rights, including one well that was covered by a road in 1990. In 2018, an owner of adjoining land filed a lawsuit in state court asking for a ruling that the debtor had forfeited or abandoned the water rights in the covered-over well because the water rights had not been used since 1990.
While the lawsuit was pending, the debtor filed a chapter 11 petition. Eighteen months later, the debtor began drawing water from the well. Adjoining landowners noticed a decline in their water availability.
The adjoining landowners obtained a modification of the automatic stay to pursue a preliminary injunction in the state court forfeiture action. The state court granted a preliminary injunction barring the debtor from drawing water from the well.
A chapter 11 trustee was appointed. The trustee filed a motion to sell the farm property free and clear under Section 363(f)(2). The buyer was the holder of a lien on the property and consented to the sale.
Notably, the buyer, the trustee and creditors were or should have been aware of the disputed water rights because the forfeiture suit was in the debtor’s schedules.
The sale motion stated that the trustee would be selling a fee simple interest in water rights, but the asset purchase agreement said that the trustee was making no representations or warranties regarding water rights.
No creditor objected, and the bankruptcy court approved the sale to the lender.
After the sale, disputes arose between the buyer and adjoining landowners about water rights. The buyer responded by filing a motion asking the bankruptcy court to amend the sale order to “clarify” that the water rights had been sold “free and clear.”
The adjoining landowners objected to the motion. On several grounds, Judge Anderson ruled that the sale order did not extinguish the forfeiture action.
Notice of the sale free and clear of disputes about water rights was inadequate, Judge Anderson said. The sale motion did not state any basis for selling the water rights, did not identify the adjoining landowners, and did not state how the sale would affect the forfeiture action or the rights of other parties.
“And most problematic,” Judge Anderson said, the motion did not state a basis under Section 363(f) for the sale of water rights free and clear of the pending forfeiture suit.
Simply for the lack of adequate notice, Judge Anderson refused to modify the sale order. But there was more, much more.
Water rights are not the type of property that the court can sell. In Utah, no one owns water rights. Water belongs to the public. Someone can only obtain the right to use water.
Judge Anderson therefore said that the outcome of the forfeiture action could result “in a return of the Water Right to the public pool for subsequent appropriation. This is not an interest that can be transferred to the sale proceeds.”
Selling water rights, Judge Anderson said, “impinges on Utah’s water law policy that determines how, where, and by whom its public water is used.”
Judge Anderson explained that the adjoining landowner was seeking neither a monetary award nor an equitable remedy in the forfeiture action. The landowner therefore did not hold a claim or right to payment that could attach to proceeds in a sale free and clear.
Finally, Judge Anderson said that the Rooker-Feldman doctrine barred him from entering an order that would, in substance, vacate the state court’s preliminary injunction and extinguish the forfeiture action.
In the arid western U.S., property cannot be sold free and clear of disputes over water rights.
Why? Because water rights are not property that someone owns, as Bankruptcy Judge Kevin R. Anderson of Salt Lake City explained in his February 16 opinion.
The debtor owned a 7,000-acre farm in Utah. The owner had several water rights, including one well that was covered by a road in 1990. In 2018, an owner of adjoining land filed a lawsuit in state court asking for a ruling that the debtor had forfeited or abandoned the water rights in the covered-over well because the water rights had not been used since 1990.
While the lawsuit was pending, the debtor filed a chapter 11 petition. Eighteen months later, the debtor began drawing water from the well. Adjoining landowners noticed a decline in their water availability.
The adjoining landowners obtained a modification of the automatic stay to pursue a preliminary injunction in the state court forfeiture action. The state court granted a preliminary injunction barring the debtor from drawing water from the well.