There are two reasons such a habit is bad for baby's teeth. I, as well as others, elaborate further on both problems in response to this question. The first is that prolonged use of a bottle can impact mouth shape and tooth position. The second has to do with the chemical contents of the milk and the propensity for tooth decay as well as gum disease. Each of these items has a different solution.
The tooth decay aspect of a pre-bedtime bottle feeding can be assuaged if the milk portion of the routine is simply moved so that it is prior to brushing your daughter's teeth, but there are other aspects to baby-bottle tooth decay such as a possible connection to childhood obesity (which makes a few other diseases such as diabetes more likely) as well. For this reason, you are right when you suggest switching to water.
The mouth shape and tooth placement aspect is most likely due to prolonged sucking action and is also related to frequency of use as well as how long the baby uses the method. Problems that arise alongside prolonged bottle use also arise with use of a pacifier so when it is time to rid baby of the bottle, it is also time to do away with the binky/paci. Concerns about this are why there is such a debate over when baby should be weaned and how early/late is too early/late. This is the reason to switch away from the bottle entirely and most recommendations are that it is time once the child is well into her twos (AAPD, UNICEF and others). Again, see the related question for more information as well as citations.
However, I suggest making one change at a time. Perhaps moving the milk into a sippy cup first is the easiest switch and then move it to earlier in the routine is the routine shortly there-after would be the easiest way to go. Good Luck!