Cannabis Growers and Investors: Be Sure of Your Water Rights

In western states that have legalized cannabis over the last few years, water agencies have seen a sharp increase of permit applications to secure water rights. Cannabis is an agricultural crop and, of course, it needs water to grow. The water needed to irrigate those crops is similar to what almonds and pistachios require.[1] With the legalization of hemp in the 2018 Farm Bill came more economic opportunity for cannabis farmers and investors, but without secured water rights this opportunity will remain largely untapped.

This advisory first provides an overview of Western water law and the current issues that water agencies throughout the West are facing and then tailors these issues to the cannabis industry, identifying a path forward for growers and those considering investing in a growing operation.

Western Water Law: First-in-Time, First-in-Right

In the East, where sufficient rainfall means farmers need not depend on irrigation, states adopted the English common law principle of riparian rights. Under that system, riverfront properties share the resource. A different legal system developed in the arid Western states.  The doctrine of prior appropriation adopts a first-in-time, first-in-rights approach to water rights, meaning that the first person to put water to beneficial use may block future users if there is not enough water for all.  The resource is not shared so much as it is allocated, based on priority in time.

This approach emerged during the gold rush as a way to foster mining and settlement around agricultural economies. A major way to do that was to encourage diversion and beneficial use of water, a scarce resource in the American West. The California Supreme Court officially adopted the doctrine of prior appropriation in its landmark decision Irwin v. Phillips,[2] which continues in somewhat uncomfortable juxtaposition with riparian rights. The Court recognized “the rights of those who, by prior appropriation, have taken the waters from their natural beds, and by costly artificial works have conducted them for miles over mountains and ravines (…) and without which the most important interests of the mineral region would remain without developments.”[3]

Water rights based on prior appropriation quickly spread throughout the West and has been codified today in eighteen states, including Alaska, Washington, Oregon, California, Nevada, and Colorado, all states in which cannabis is now legal under state law. While the basic principles of prior appropriation have remained the same, legislatures and courts have refined the elements necessary to prove a water right under the doctrine. Typically, a water user wishing to secure water rights must show four components: intent, diversion, beneficial use, and priority. Most states have adopted a permitting scheme to administer the appropriation of water rights, with the notable exception of Colorado, which relies on a system of water courts to administer water rights.

Under these statutes, states generally require a two-step water rights permitting process. The process begins with a permit application, which establishes the priority date, and if approved results in a permit. The permit is not a vested water right but an authorization to develop the necessary water works to take possession of the water for beneficial use. After the permit holder can prove the rate and amount of water put to beneficial use, the right is “perfected” and a permanent water right is issued.

In most Western states, water rights have been issued for more water than exists in the stream or may be sustainably pumped from aquifers, which harms the resource and the aquatic life that depends on it. This has resulted in the imposition of constraints on and sometimes curtailment of water use.  Applications for new water rights are frequently contested.

As mentioned, there is no sharing under prior appropriation. During water-shortage conditions, which occur frequently in the West, senior water users can call upon the state to notify junior users to curtail their use of water to satisfy the more senior water rights first. An exception to this general principle is where the junior’s use is so attenuated from the senior that the senior would not benefit from the junior being curtailed. This is referred to as a “futile call.”

Water rights may be modified through an administrative process. Changes in place of use, nature of use, point of diversion (or point of appropriation for groundwater) are permitted if the change would not enlarge the water right or injure other water rights holders. Changes in place of use could result in water no longer being appurtenant to the lands under consideration for investment, which will not show up in a title report.

Beneficial Use: Use it or Lose it

Perhaps the most important element of prior appropriation is the requirement to put water to beneficial use. Water rights holders who fail to meet this requirement over a period of time risk having courts find that they have abandoned or forfeited their rights. While abandonment requires showing an intent to abandon a water right together with failure to put it to beneficial use, forfeiture statutes simply provide that a water user will lose its rights by failing to put the water to beneficial use for the statutory period, usually five consecutive years, unless certain exemptions apply. Loss of water rights for non-use is at the core of water rights auditing.

Water Rights and Cannabis Growers

With the legalization of cannabis in western states came an increase of water rights applications that state agencies have struggled to deal with. The California State Water Resources Control Board adopted a complex policy essentially treating cannabis as a crop inferior to other traditional agricultural crops from a water rights perspective.[4] Other states have not made such a strong policy choice yet, but will certainly be faced with how to address this influx of permit applications, and will feel pressure from farmers of traditional crops, who do not always welcome cannabis growers with open arms.

In Oregon, a cannabis producer license typically requires a water right permit or certificate number, a statement that water is supplied from a public or private water provider, or proof that the water is from a source that does not require a water right.[5] An applicant for a water right permit must submit maps, expected water use volume and rates, and show county approval for the use of the land. Once the applicant receives a permit (often between three and four months), he or she must prove beneficial use of the water to “certify” the water right.

Conclusion: Audit the Water Rights Before Investing

Before investing in a growing operation or entering into a long-term supply contract with a grower, prospective investors should pay particular attention to whether that operation has the necessary water rights and that they are intact. This can be done by conducting a water rights audit. The purpose of the audit is to confirm the water rights or identify problems that need fixing.  In virtually every instance there is a solution, but it is always best to be aware of and to address them as part of the acquisition or investment.

The water rights audit will allow prospective buyers to answer important questions:

• Are there water rights associated with the operation? The water rights may be under a permit, a vested certificate or by contract, each of which present their own issues.
• Are the water rights intact? Five consecutive years of non-use in many states could result in forfeiture of the water right. Also, using water inconsistently with the terms of the permit or certificate could lead to cancellation or reduction of the water right.
• Do the documented water rights cover all the lands to be cultivated? During the audit we often find a disconnect between the “paper” water rights and use on the ground. Water rights can be separated from the real estate; be sure they still are attached and in the right amount.
• What is the “rate and duty” of the water right? Just ensuring that a growing operation holds water rights is not enough. Different crops have different water requirements, and the rights must be tailored to growing cannabis.
• What constraints apply to the water rights? The priority of the right relative to other users on the stream or the groundwater aquifer could affect the availability of water when it is needed most. There might also be state administrative limits on the use of water, such as maintenance of minimum fish flows.

This advisory is a publication of Davis Wright Tremaine LLP. Our purpose in publishing this advisory is to inform our clients and friends of recent legal developments. It is not intended, nor should it be used, as a substitute for specific legal advice as legal counsel may only be given in response to inquiries regarding particular situations. Manufacturing, cultivation, distribution and possession of cannabis remains illegal under federal law and under certain state laws, and is strictly regulated in those states which have legalized medical or recreational cannabis.

[1] Christopher Ingraham, Forget Almonds: Look at How Much Water California’s Pot Growers Use, Washington Post, June 26, 2015, https://www.washingtonpost.com/news/wonk/wp/2015/06/26/forget-almonds-look-at-how-much-water-californias-pot-growers-use/?utm_term=.1e6ec4e450c2.

[2] Irwin v. Phillips, 5 Cal. 140, 145-47 (1855).

[3] Id. at 146.

[4] See Amy Steinfeld, Legal Cannabis Ushers in a New Era of Water Regulation in California, The Water Report #181, Mar. 15, 2019.

[5] OAR 845-025-1030 (6)(g)(D).