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Official answer for why Lugia is not Water type

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From Morimoto Shigeki:

>To start, the first type was decided to be Flying-type since Lugia has wings. At the time Psychic-type was the symbol of powerful Pokemon. As we wanted Lugia to give the impression of being a powerful Pokemon, we settled on Psychic-type for the second type, instead of Water-type.

>In short, the reason why Lugia is not a Water-type despite being underwater, is due to its Flying-type-like appearance, and Psychic-type being the symbol of a powerful Pokemon.

>In addition, legendary duos represent opposite concepts, for example Groudon and Kyogre represent land and water, while Dialga and Palkia represent time and space. In the case of Ho-oh and Lugia, although they do not have a direct connection in the story, we imagine that they represent the sun and the moon, day and night, yin and yang (positive and negative), the undersea and the sky, above and below.

>Ho-oh and Lugia were born in the world of Pokemon Gold and Silver, for the new feature, time system, gave us day and night cycle. Thus, they represent the sun and the moon, day and night.