By: Shu-Yi Oei
I’ve been following the story of Puerto Rico’s default on its public corporation debt repayment obligations, which has been unfolding over the last several months. The latest happened on Monday, May 2 (well, technically Sunday), when Puerto Rico missed a major debt payment that was due to the bondholders of its Government Development Bank (GDB).
The topic has been well covered from the sovereign debt/insolvency angle over on Credit Slips, so I won’t go into that in detail here. As I understand it, the main points are these:
(1) Puerto Rico owes around $70 billion total outstanding debt to its creditors, of which a significant chunk is public corporation debt. Public corporations are corporations owned by the government of Puerto Rico. For example, the GDB is a public corporation.
(2) Unlike U.S. municipalities such as Detroit, Puerto Rico entities aren’t considered debtors for purposes of Chapter 9 of the U.S. Bankruptcy Code. They therefore don’t have access to the Chapter 9 municipal bankruptcy process. See 11 U.S.C. § 101(52). This is a bit of a head scratcher.
(3) In 2014, Puerto Rico’s legislature passed a law, the Puerto Rico Public Corporation Debt Enforcement and Recovery Act, which created a mechanism analogous to Chapter 9 bankruptcy by which Puerto Rico public corporations can restructure their debt. See Puerto Rico Passes New Municipal Reorganization Act: Puerto Rico Public Corporation Debt Enforcement and Recovery Act, 2014 P.R. Laws Act. No. 71, 128 Harv. L. Rev. 1320 (2015).
(4) Some bondholders filed a lawsuit, contending that Chapter 9 of the U.S. Bankruptcy Code preempts the Recovery Act. The First Circuit ruled that the Recovery Act is preempted. Franklin California Tax-Free Trust v. Puerto Rico, 805 F.3d 322 (1st Cir. 2015). The Supreme Court granted cert and heard oral arguments on March 22, 2016. No decision yet. For one scholar’s take on the issue, see Stephen J. Lubben, Puerto Rico and the Bankruptcy Clause, 88 Am. Bankr. L.J. 553 (2014).
(5) In light of all this, some have called for U.S. Congressional action, and there’s been legislation drafted to address Puerto Rico’s fiscal crisis that will allow for both restructuring and reform going forward. The House Committee on Natural Resources put forth a draft bill, the Puerto Rico Oversight, Management & Economic Stability Act (“PROMESA”). See also here for a helpful executive summary that accompanied an earlier draft. So far, that legislation has stalled, but they’re still trying.
There are many important issues in play, about which various stakeholders and commentators disagree. Some big ones are: (a) whether the draft PROMESA legislation raises retroactivity issues that make it unfair to bondholders (including mutual funds and their investors) who may be subject to restructuring ex post without having had notice of that possibility ex ante; (b) relatedly, whether creating a bankruptcy-like restructuring process for Puerto Rico is bad for bondholders because it prevents holdout creditors from holding up restructuring negotiations, (c) how much oversight and sovereignty Puerto Rico should cede (for example, different stakeholders feel differently about the installation of an oversight board); (d) the extent to which austerity measures are feasible and should be imposed [fn1], and (d) and what substantive reforms should be put enacted going forward.
So where does tax come in?