Risks of investing in water rights?

Question

Hello,

a realtor in Southern Utah has offered me an off-market deal to buy 10 acre feet of water rights in bulk at substantially below the going retail price. The idea is that people building new cabins in the area need to secure small chunks of water rights in order to be get a permit for a well which they need before they can get a building permit. The realtor believes it will take between 5 and 10 years to "retail" these 10 acre feet, and I calculate an IRR of about 24 to 47%, after commissions, depending on how long it will take to dispose.

I was wondering if anyone out here has experience with water rights, and can point out some of the risks? I figure that the regulator who makes the laws is one risk. They could always decide to appropriate water rights or revoke them in case water would become really scarce. But what other risks am I missing, and has anyone followed the above strategy successfully?

The 5 to 10 years illiquidity is not a problem for me, as I was planing to use IRA funds for this.

Thank you!

Jean

Jean G. · Answer

@Wade Sikkink,

just to clarify, I understand that 10 acre feet wouldn't be of interest to an industrial user. The idea was more to sell them off in 1/4 acre increments (or whatever the amount required is to get a building permit for a home) to people building cabins on land in the area, as @Douglas Larson was mentioning.

It's not going to make me rich, just something to perhaps put my self directed IRA money to work...

Jean

Wade Sikkink · Answer

My day job is for the largest mechanized irrigation company in the world.  Think crop circles you see out the airplane window...

10 acre feet is a very small amount of water right.  It might be useful for a single home, but it won't be valuable for much else.  An acre foot is less than 400,000 gallons.  A typical farm field requires millions of gallons per year, even more in arid areas like southern Utah.  Municipalities in CO and other areas of the west are buying up water rights from farms to support growing populations, but they need large amounts in contiguous buys to be worth their while.  Unless you are buying land and water rights on a Ted Turner scale (or maybe somewhat less than that) there probably isn't much opportunity to make money buying water rights.

Just my $0.02.  Good luck.

Douglas Larson · Answer

In the Salt Lake area, water shares for the various canals that flow from Utah Lake to the Great Salt Lake have been as low as $1500 and as high as $8,000 since I have been watching them over the last 8 years. I was required to buy  a share for a SRD (small residential sub-division) a couple years ago, as a part of a lot development in South Jordan. I purchased from a broker who purchased many shares at a time and sold what was needed here and there.

I also purchased a home with a well and water rights a few years back. That water right is numbered with the sate and is worth several thousand dollars to someone hoping to build in that area but cannot get water from a municipality. My house, currently leased, could go to the city metered system but the well water is much better and cheaper. In most of Utah, (a semi-arid desert) a land-owner cannot simply tap into ground water by well or from a stream or river without water rights.

I like the idea of banking water shares but they can be appropriated if not used as you mentioned. A little more research on how likely that is or if it's been done before would be wise.

Have fun and keep us posted!

Jean G. · Answer

Thanks for both of your comments. Yes @Becca Summers you're right that second home starts are affected as soon as the economy hurts. So it's important to make sure that I can sit on these water rights for a long time if needed.

This is what I have found out since yesterday, which may be interesting for others:

- water rights have a priority date, of when the water right was initially granted. The older the priority date, the more valuable the water right is. In case there would be a shortage of water, the water rights would be served starting from the oldest ones, so the newer ones may not get their share of water if there is not enough for everyone.

- water rights can be revoked if not used. I'm investigating this further, but it seems that it could be necessary to have someone use the water rights temporarily if I'm going to have to sit on them for a long time, in order for them to remain in effect.

I'll update this post if there is anything further to add.

Jean

Dan Boem · Answer

The real money in water rights goes to the attorneys who are hired to defend those rights.

Becca Summers · Answer

That is very interesting!

Becca Summers · Answer

The only problem I would see is if the economy changes and the second home market stops building. When money gets tight the second home markets get hit first.

Skyler Smith · Answer

It seems like the strategy makes sense. I don't think anyone will tell you that investing in commodities is an inherently bad idea. The key difference which it sounds like you know already is that real estate offers cash flow and appreciation, where commodities offer only the chance at appreciation. It's not really my wheelhouse, but a viable investing strategy.

What do you mean about a realtor who makes the laws?

Risks of investing in water rights?

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