Reuters News has published an article about the trend of master planned community developers to reserve the minerals rights beneath the properties they sell to homebuyers. According to the Special Report, entitled U.S. Builders Hoard Mineral Rights Under New Homes:
[T]ens of thousands of families … have in recent years moved into new homes where their developers or homebuilders, with little or no prior disclosure, kept all the underlying mineral rights for themselves, a Reuters review of county property records in 25 states shows. In dozens of cases, the buyers were in the dark.
The phenomenon is rooted in recent advances in extracting oil and gas from shale formations deep in the earth, fueling the biggest energy boom in modern U.S. history. Horizontal drilling and the controversial practice of hydraulic fracturing, or “fracking,” have opened vast swaths of the continental United States to exploration.
As a result, homebuilders and developers have been increasingly – and quietly – hanging on to the mineral rights underneath their projects, pushing aside homeowners’ interests to set themselves up for financial gain when energy companies come calling. This is happening in regions far beyond the traditional American oil patch, which has a long history of selling subsurface rights.
There is much more in the article. You can read the entire article here.
When it comes to this practice (which frankly isn’t as new or controversial as the article makes it seem), there are a couple issues at play. The first is whether the homebuyer is being properly compensated for receiving less than the full bundle of property rights in the land. One aspect of that issue is whether the homeowner is even aware that the mineral rights are being severed. From the article:
In most states, sellers aren’t legally required to disclose to home buyers whether they are severing the mineral rights to a property. Builders sometimes flag the move in sales contracts or deeds and other documents they are required to file with local authorities. But buyers don’t necessarily review their paperwork very closely, especially if, as real-estate agents say happens often, they don’t hire a lawyer to help them with the transaction.
Then again, that last sentence sounds an awful lot like the excuses some borrowers made when they purchase overpriced homes using exotic and risky mortgage instruments. The fact is, when making what is likely the most significant purchase of a lifetime, homebuyers owe it to themselves to read the documents carefully and understand what they are and aren’t signing up for. Nevertheless, however, if the homeowners are unaware that they are forfeiting mineral rights – as is asserted in the article – it seems unlikely that the purchase price of the home accurately reflects the parties’ agreement. For that matter, the “agreement” is hardly an even negotiation. Most home purchase contracts are offered as “take it or leave it.” Thus, it is not surprising to read that when the issue comes up, developers are unwilling to negotiate on mineral rights, as illustrated by this passage in the article:
Richard Goodrich, another Valencia Golf and Country Club homeowner in Naples, noticed D.R. Horton had severed his mineral rights while he was negotiating to buy his house in November 2011. He says he told the local sales rep that he wanted to keep the rights. “If somebody wanted the mineral rights, then obviously there was a value,” says Goodrich, a retired transportation executive. He was rebuffed. “It wasn’t negotiable. We either (gave up the minerals) or we didn’t get the house.”
Beyond the mere economic value of the mineral rights, buying property without the mineral rights can have unintended consequences for homebuyers, too:
Property-tax assessments don’t take into account severed mineral rights. And “lenders may not be willing to extend mortgage loans on property that is subject to intensive gas extraction activities,” according to a report last year by the North Carolina Department of Justice.
Unfortunately, these homebuyers are probably out of luck. Property rights are pretty close to sacred in this country. Indeed, a multi-billion dollar industry rests on the legal certainty underpinning those property rights. Even though the mineral rights issue may not have been noticed at the time, and even though negotiations between developers and homebuyers is hardly a match of equals, disgruntled homeowners who didn’t read their grant deeds are not going to find much success trying to reclaim mineral rights that were long ago severed from the property.
To us, however, the second issue is where the action is going to be. What happens when the developer that owns the mineral rights attempts to commercialize them? Historically, the mineral rights were like a lottery ticket. Few developers actually expected to monetize those rights. But with new extraction technologies, that may be changing. Again, according to the article:
Now, once-inaccessible stores of oil and gas – underneath bustling urban neighborhoods and tree-shaded suburbs in places like Denver and Los Angeles – are within reach. Homeowners in these “virgin locations” are often untutored in the nuances of property rights and unaware they may be sitting atop oil and gas deposits that could be worth thousands or even millions of dollars.
That means that some of those lottery tickets are going to be cashed, and what happens to a largely residential neighborhood when the developer leases mineral rights to an energy company. Never mind the financial aspect of it, what about the health effects?
Homeowners, once they find out they don’t own the earth under their feet, are typically not pleased. Many worry about the potential health and environmental effects of fracking. Research has yet to resolve the fierce debate over whether the process leads to ground, air and drinking-water contamination …
Here is a cautionary tale from Fox Run, an upscale subdivision in Greeley, Colorado:
[N]eighbors gathered at the Family Funplex, where officials from Mineral Resources told them that the company was about to begin drilling under their neighborhood – and that it was putting 22 well heads right across the street (the number has since been reduced to about 16). The officials assured residents that they would have a say in choosing the shrubs and trees to be planted to conceal the drilling operation and minimize noise.
Unbeknownst to the residents, many of whom had missed the mention of the mineral-rights disclosure on their deeds, the developer had spun off the rights and leased them to Mineral Resources. They say they don’t remember hearing anything about it when they bought their houses.
Could that happen here in Orange County — an area with large landowners and a historic oil industry? Indeed, oil wells are a common sight along Pacific Coast Highway between the north end of Newport Beach and Huntington Beach. Other parts of Orange County have oil deposits and either current and past drilling operations as well.
What rights do homeowners and local governments have to limit drilling, mining and fracking in their communities? Should a local community be able to pass zoning and permitting requirements that would prevent energy extraction operations from occurring within residential neighborhoods, thus neutralizing the mineral rights that were withheld from the residents?
Although there is no reason to be alarmed, note that Rancho Mission Viejo Company has, at some point, elected to retain mineral rights on the properties that it has developed. Below is an excerpt from a sample deed in Ladera Ranch:
Sample Mineral Rights Clause from a Ladera Ranch Grant Deed
So Rancho Mission Viejo has reserved the right to slant drill for oil and gas beneath Ladera Ranch! But, don’t hit the panic button. Let us repeat: don’t hit the panic button. First, in spite of the sensationalism of the Reuters article, this is neither a new or unusual practice by real estate developers. The existence of the mineral rights clause doesn’t mean that Rancho Mission Viejo has any plans to start drilling! In fact, you might almost conclude the opposite. That 500 foot buffer between the surface and the start of the reserved mineral rights is very large and a good protection for homeowners. In other words, homeowners still own the minerals within 500 feet of the surface and extraction activities can’t impact that space. In contrast, the mineral rights clauses in some of the cases cited in the Reuters article allowed drilling as close to 35 feet below the surface! A buffer of 500 vertical feet provides substantial protection for property owners and indicates that Rancho Mission Viejo Company is not aggressively seeking to monetize mineral rights. Second, with Rancho Mission Viejo Company embarking on a twenty year project of building out the Ranch Plan, it would be business suicide to enter into an agreement to allow an energy company to start slant drilling or fracking in South Orange County. Could you imagine the uproar? California is not Colorado. Colorado — like Texas and other oil and gas states — has a long history of facilitating energy exploration. The environmentalists in Southern California won’t allow a toll road to be built. Imagine how they’d react to a commercial fracking operation! Nevertheless, the Reuters article is interesting because residents of Ladera Ranch (and no doubt other Orange County developments) are in the same situations as the homebuyers mentioned in the national news story.
If you are curious about your own property, you can review the grant deed. Typically the property description will be listed on the first exhibit attached. Your property will be described with reference to a lot on a master tract map or by the appropriate metes and bounds. The exhibit will also include certain easements and other recorded restrictions on the property, including the mineral rights carve-out if you have one.
Fracking, which is slang for the technique known as induced hydraulic fracturing, is an innovative technique for oil and gas extraction that makes previously inaccessible deposits economically viable. Because it is relatively new and uses highly pressurized water in the process, there are questions about the effects of fracking on local ecosystems and ground water tables. Slant drilling or horizontal drilling is a technique for accessing mineral deposits located under ground from a drill that is not located vertically above those deposits. If you want a 45 second primer on slant drilling and how an energy company could access the minerals located beneath your home without “entering upon the surface” of your property to do it, oil prospector Daniel Plainview from the movie There Will Be Blood can explain the concept to you:
Do you remember our article about “The Tragic and Scandalous Origins of Doheny State Beach?” In that article, we pointed out that “Edward Doheny was the inspiration for the character of Vern Roscoe in Upton Sinclair’s landmark novel Oil! The highly acclaimed 2007 movie There Will Be Blood was an adaptation of Oil!” and featured an unscrupulous oil prospector slant drilling under unsuspecting neighbors. And now we are talking about the idea of future oil prospectors slant drilling under the unsuspecting residents of Ladera Ranch! We guess if you write long enough, things tend to come full circle.
In our opinion, commercial mining, drilling and fracking operations are an important part of this country’s energy independence, but such activities are not consistent with (and in fact can be destructive to) residential neighborhoods. To us, there is a big difference between Rancho Mission Viejo Company allowing energy extraction on its undeveloped ranch lands and exploiting the mineral rights in the land beneath Ladera Ranch. And although we doubt that Rancho Mission Viejo Company has any plans to exploit its mineral rights, perhaps local government can be proactive on this subject. Local governments should, to the extent possible, limit the ability of developers and energy companies to commence destructive and dangerous extraction operations without the approval of the negatively impacted communities, whether or not those communities own the underlying mineral rights.
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