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Severed Estate Tips and Tricks for the Commercial Developer

I want to purchase then develop vacant commercial property, but I don’t think the minerals are included. What should I do?

It is a bedrock principal of property law that an owner of the surface and minerals can sever the mineral property rights from the surface property rights. When such a severance occurs, the property is referred to as a ‘split estate.’ A split estate scenario is often perceived as contentious because the mineral owner can lease to a company that can access the property and develop the minerals over the surface owner’s objection. Split estate development doesn’t have to be prickly. A thoughtful split estate developer can take certain steps to ensure harmonious and prosperous relationships between all interested parties.

This purpose of this article is to educate the developer targeting a split estate property on pre-contract strategies, common pre-closing considerations, and legal tools to repair split estate complications.

I. Pre-Contract Strategies.

A developer who suspects a target property has a severed estate should consider several pre-contract strategies to provide itself with positive leverage during the pre-closing, due diligence phase. In a perfect world, the seller would represent to the developer that it owns the surface and minerals, known as the fee simple absolute. With or without an affirmative fee simple absolute representation, the developer must, at a minimum, ensure it possesses an appropriate contractual ‘out’ in the event it is uncomfortable with the facts surrounding the severed estate.

Depending on the circumstances, the developer might structure the contract so that closing is expressly conditioned on the seller’s resolution of any mineral-related issues to the developer’s satisfaction. Alternatively, the developer might prefer the ability to terminate the contract and receive a refund of its earnest money if the facts surrounding the mineral estate are unsatisfactory. Regardless of the developer’s preferences, implementing precise contractual provisions will set the stage for a smooth closing (or undisputable termination) down the road. It is best practice for the developer to retain counsel, not after, but prior to contract drafting and execution.

II. Pre-Closing Considerations.

After going under contract, the developer and its attorney should examine the title commitment for clues relating to a severed estate. The developer should be certain that the recorded document purporting to sever the mineral estate is legally adequate. For instance, the reservation or conveyance language could be insufficient or sufficiently severed minerals could have rejoined the surface through the foreclosure process.

Assuming the developer and its attorney determine the severed estate is legitimate, they must next determine the ‘status’ of the minerals. If the commitment reveals an oil and gas lease, the developer should seek its attorney’s counsel on the effectiveness of the lease. If the lease is expired, then the developer should take steps to obtain a release of lease, the particulars of which are codified in Colorado Revised Statute §§ 38-42-104-5.

If the lease is valid and in effect, then the developer should consider how particular provisions of the lease will interplay with its intended development. Pertinent clauses include those pertaining to surface use, ingress/egress, equipment, power lines, water impoundment, pipeline easements, and linear setbacks from physical structures.

III. Effective Legal Tools to Mitigate Split Estate Risk

After properly determining the ‘status’ of the mineral estate, the split estate developer and its attorney will identify which legal tool is most appropriate to address the split estate complications based upon the specific circumstances surrounding the target property. Several examples of tools to ease split estate tensions, along with appropriate scenarios for their use, are discussed below.

A. Quiet Title Lawsuit

If ownership of the mineral rights is in dispute because involved parties interpret prior reservation language different ways, for instance, then, the developer might consider a quiet title proceeding under the Colorado Rules for Civil Procedure Rule 105. The developer could request that the owner initiate the proceeding to determine the rightful owners prior to closing on the property or negotiate a credit at closing that reflects the developer’s expected costs to further the proceeding itself.

B. Tax Lien Process

A developer that closes on a severed estate property where the mineral owners are unlocatable, might consider adding the mineral rights to the county’s tax roll pursuant to C.R.S. § 39-1-104.5. If the mineral owner doesn’t pay the required property taxes, the developer can purchase a tax lien on the property and potentially obtain ownership of the minerals through a treasurer’s deed pursuant to C.R.S. §§ 39-11-101 et. seq.

C. Surface Rights Relinquishment Agreement (SRRA)

If the seller is reserving the minerals for itself in the transaction with the developer, the developer should consider requesting that the seller execute a SRRA as a condition to closing. In the SRRA, the seller/mineral owner waives its right to enter onto the property to develop the minerals. The SRRA is mutually beneficial in that the seller/mineral owner still owns and receives profits from the minerals, but the developer/surface owner can develop the surface without worry of mineral operation interference. The developer should rely on its attorney to determine the applicability and specifics of the SRRA.

D. Surface Use Agreement (SUA)

When a severed estate is subject to a valid oil and gas lease, the developer should endeavor to negotiate an SUA with the oil and gas company prior to closing on the property. The SUA spells out the relationship between the developer/surface owner and oil and gas company so that each party’s operations can co-exist in unison.

E. Title Insurance Endorsement

Lastly, the title company issuing the title insurance policy might be willing to issue an endorsement that ‘insures over’ damage to any improvements on the property caused by mineral operations on the property. The developer and its counsel should inquire with the title company representative as to the availability of oil and gas endorsements.

IV. Conclusion

Development of a split estate property is a complicated dance that requires acute attention to detail and a specialized supporting cast. The developer willing to devote extra time and effort could be rewarded by successfully developing a property no one else would touch. Any developer with a specific property in mind or otherwise interested in learning more should contact Zac Grey.