Protecting a Municipality’s Children & Assessing the U.S. Supreme Court’s Perspective on the U.S. Territory of Puerto Rico

October 21, 2019

Good Morning! In this morning’s eBlog, we consider the FBI investigation of the Mayor of Taylor, Michigan on charges of racketeering, bribery, wire fraud, and money laundering, then we assess the City of Detroit’s efforts to protect its children, before returning to Puerto Rico to assess its status in the U.S. Supreme Court. 

Mayoral Integrity? The FBI has subpoenaed documents about Taylor, Michigan Mayor Rick Sollars’ re-election fundraising while investigating the potential charges of racketeering, bribery, wire fraud, and money laundering, according to a grand jury subpoena. It appears investigators are focused on the use of the city-owned Lakes of Taylor golf course from 2016-18 and whether Mayor Sollars’ re-election committee or a third party paid to use the facilities, according to the subpoena.

The subpoena provides new insight into an ongoing corruption investigation which emerged publicly last February when FBI agents raided City Hall, the Mayor’s home and cottage, and the home and office of a city contractor: investigators seized campaign records and $206,493 from Mayor Sollars. Subsequently, they raided the home and business of a second businessperson.

Taylor, a suburb of Detroit, a municipality of just over 63,000 in Wayne County, is the 17th most populous city in Michigan: it was named in honor of former military hero and 12th President of the United States Zachary Taylor. Taylor Township was organized on March 16, 1847 from 24 square miles which had originally been part of Ecorse Township: it is 18 miles southwest of Detroit.

Although the grand jury subpoena was issued last April, it was only revealed this week in the wake of a Freedom of Information Act request—with said requestor subsequently, in an email to the Detroit News, writing: “It is apparent from the newly released federal grand jury subpoenas that Mayor Sollars may be facing multiple federal felonies: The detail contained in the newly released federal grand jury subpoenas seem to indicate that a number of city vendors have been spilling the beans with respect to Mayor Sollars and his campaign fundraisers.”

As of yesterday, prosecutors had not filed any criminal charges since searching the locations, and Mayor Sollars remains in office. It seems the golf course and banquet center has been a frequent setting for Mayor Sollars, who delivered his State of the City address at the facility just two days after the FBI raids. He has, unsurprisingly, professed his innocence. The grand jury subpoena sought documentation related to golf
fundraisers and cigar parties Mayor Sollars’ re-election committee has held at the golf course since 2016. The subpoena here specifically requested copies of checks, credit card documents, and records of any cash payments to the Lakes of Taylor related to the various events.

It seems Mayor Sollars’ election committee has not filed a campaign statement since last year, according to county elections records; a year ago, in October, the
committee reported a $162,382 balance. The campaign has hired the Clark Hill law firm to review campaign finance reports and correct irregularities involving contributions and expenses, according to attorney Michael Pattwell, writing: “Since this summer, the committee has been working with the Michigan Secretary of State to prepare amended campaign finance reports…Once the committee has amended those historic campaign finance reports, it will turn its attention to preparing and filing the more recent reports which had not been filed due to the federal government seizing the underlying records in an unrelated matter.”

During the City Hall search, investigators were seeking records linking the Mayor to property management owner Shady Awad, records involving the Mayor’s personal and campaign finances, as well as his casino activity, according to search warrant records obtained by The Detroit News.

Mayor Sollars was first elected nearly five years ago in the wake of serving two terms on the City Council and a career in private business as a partner of three Romulus-based manufacturing companies. Now, federal prosecutors are seeking to seize his home and vacation chalet in Lenawee County: they have filed liens to have the approximately $600,000 worth of real estate forfeited to the government upon conviction.

Suffer the Little Schoolchildren? When the Detroit public schools opened this year, the Detroit Public Schools Community District took steps to ensure that families were not afraid to send their children to school, regardless of their immigration status. Indeed, the system’s sanctuary policy bars federal immigration authorities, including Immigration and Customs Enforcement, from entering schools without a search warrant and district
personnel from collecting information on students’ immigration status. Compared to other states, Michigan does not have a large immigrant population—approximately seven percent of Michigan’s population is foreign born (compared to about 14 percent nationwide), albeit about 13 percent of the state’s school-age children have at least one immigrant parent. (Over 80 percent of the children of immigrant parents in Michigan are
born in the U.S.) Detroit Public Schools Superintendent Nikolai Vitti noted: “The trauma our kids are dealing with is very real: Every day, they don’t know if mami and papi are going to come home,” as he explained his recent announcement of new guidelines at a community meeting in the wake of highly publicized immigration raids of Mississippi poultry processing plants over the summer, where nearly 700 workers were arrested in
the biggest work site immigration enforcement operation in a single state: the Superintendent noted: “The immigration raids shocked our immigrant community and heightened the fear that already existed due to the positions of the president and his administration on immigration and immigrants in general.”

Recognizing that hundreds of children did not go to school for days after the raids, Superintendent Vitti considered it crucial to delineate the school district’s position: “The community meeting allowed our position to be better understood and empowered students and parents to know we supported and protected them,” at a meeting where he was assisted by Spanish, Arabic, Bengali, and Hmong translators—representing the most common languages spoken in the district. The event came in the wake of an epistle the District sent parents with a clear message: “School personnel have been directed not to allow any officials from Immigration and Customs Enforcement (ICE), U.S. Customs and Border Patrol (CBP) or other federal immigration enforcement agencies access to our school buildings or grounds.” The letter also said that personnel at the campuses had been directed not to provide any federal law enforcement agents with information about students. Protecting the city’s children has mattered, because Michigan has one of the nation’s highest rates of arrests for suspected immigration violations.

Getting Ready to Rumble. The U.S. Supreme Court will hear oral arguments tomorrow on the legitimacy of the debt restructuring being imposed on Puerto Rico by the PROMESA Financial Oversight and Management Board whose members were not confirmed by the U.S. Senate, with the U.S.  Chamber of Commerce and the American Civil Liberties Union among the parties which have amicus briefs. A Supreme Court ruling in the case could have a far-reaching impact on the separation of powers between the executive and legislative branches. Likewise, the court’s decision could
invalidate the authority of the PROMESA Oversight Board—with questions for the court to consider related to the original Jones-Shafroth Act creating Puerto Rico as a U.S. territory, as well as reviewing decisions known as the Insular Cases and rule on the constitutional rights of U.S. citizens living in territories outside the 50 states.

The PROMESA Oversight Board had lost an appellate court lawsuit filed by the hedge fund Aurelius Investment and other hedge funds as well a labor union representing utility workers, when the First Circuit of the U.S. Court of Appeals ruled that the
appointment of members of the Oversight Board violated the separation of powers contained in the Appointments Clause of the U.S. Constitution, because former President Barack Obama’s appointees were not first confirmed by the U.S. Senate.

The federal government’s brief wrote that Congress acted, because “Puerto Rico faced the most debilitating fiscal emergency in its history” with the Commonwealth and its instrumentalities loaded with “around $71.5 billion in outstanding debt, more than the
whole annual output of the island’s economy…Their credit ratings had been downgraded to junk, leaving them unable to borrow money on the bond markets…Nor could they get debt relief through the federal or municipal chapter 9 bankruptcy code.”  It was because of this “financial catastrophe” and “humanitarian crisis for the more than three million U.S. citizens living in Puerto Rico” that Congress acted. But the PROMESA Oversight Board and the federal government argue that the Appointments Clause does not apply in this case under Article IV of the Constitution, which empowers Congress to admit new states and administer the territories. So the question for the court is whether some
parts of the Constitution, such as the Appointments Clause, do not apply to U.S. territories.

For their part, the utility workers union, Unión de Trabajadores de la Industria Eléctrica y Riego Inc., represents employees of the Puerto Rico Electric Power Authority (PREPA), who, in their amicus brief, wrote that they have been “extremely harmed” by the “profound austerity measures” imposed by the Oversight Board on their salaries, bonuses, pension, and health plans, writing: “The Oversight Board has rushed to finalize as many actions as possible, all while holding an unconstitutional appointment, thus, having no authority to act.”

The appellate court, however, allowed the PROMESA Oversight Board’s previous actions to stand under the so-called de facto officer doctrine as long as a new Board was promptly nominated by the President and confirmed by the U.S. Senate. President Trump has re-nominated all of the current Oversight Board’s members since that ruling;
however, the U.S. Senate has not voted on confirmation.

In its brief, the U.S. Chamber of Commerce argues that the de facto officer doctrine should not be allowed to paper over constitutional errors: “Never before has the court endorsed use of the de facto officer doctrine to excuse structural constitutional errors that go to the core of preserving political accountability and protecting individual liberty,” as the Chamber requests that the case be remanded to the lower courts “unless and until the constitutional violation has been cured.”

The ACLU and its sister chapter in Puerto Rico have asked the Supreme Court not to use the so-called Insular cases to decide whether the members of the Oversight Board required Senate confirmation under the Appointments Clause. The Insular Cases from the early 20th century determined that residents of territories had only some of the protections of the U.S. Constitution: those rulings distinguish between incorporated territories destined for eventual statehood, such as Alaska, and unincorporated territories that were not. “The Insular Cases, which impose a second-class constitutional status on all who live in so-called ‘unincorporated’ territories, explicitly rest on outdated racist assumptions about the inferiority of ‘alien races,’ and depart in unprincipled ways from the fundamental constitutional tenet of limited government,” the ACLU said. Those Supreme Court decisions came under Chief Justice Melville Fuller, who also led the 1896 majority decision in Plessy v. Ferguson which established the “separate but equal doctrine” of racial segregation–albeit, as Rafael Cox Alomar, a Professor of Law at the University of the District of Columbia, who is one of four constitutional scholars who filed an amicus brief, wrote, the professors are asking the Supreme Court to either not use the Insular cases in deciding the case or that those decisions be overruled, describing them to the Bond Buyer as the “consequence of a racist approach: We are saying the Constitution fully applies to Puerto Rico.”

Motor City Assessments? Detroit and Wayne County elected officials are headed back to the state capital in Lansing to seek relief from the Legislature for fines and penalties that low-income homeowners have been assessed for years of unpaid property taxes. Mayor Mike Duggan, Wayne County Executive Warren Evans, and other local officials announced a proposal Wednesday that would lower the monthly payment plans for homeowners who owe back taxes by erasing 6 percent interest penalties and other fines which were added on top of their unpaid tax debts. Under the proposal, individuals earning less than $19,000 a year or a family of four earning less than $28,675 would qualify for the interest and penalties on their back tax bill to be forgiven, Mayor Duggan said: for an average homeowner paying $120 a month in taxes and penalties, the monthly payment would be reduced to $20 for the portion of property taxes which they still owe, according to the Mayor. Officials estimate around 20,000 homeowners in Wayne County who are behind on their taxes may fall under this income cap to qualify for the relief.

There are usually as many as 31,000 homeowners in Wayne County behind on their taxes, according to Detroit CFO Dave Massaron: most of these homeowners entered into payment plans as a result of a 2015 ordinance Mayor Duggan had advocated for which allowed the Wayne County Treasurer’s office to create a repayment plan. The
goal of the proposed relief of fees and penalties is to avert further foreclosures for unpaid taxes — one of the leading causes of abandonment and blight in Detroit’s neighborhoods. Or, as Mayor Duggan put it: “We’ve got to find a way for them to be out and from under this once and for all. And I think all of us should want those 30,000 people to not be living in anxiety over their house.”

State Rep. Wendell Byrd (D-Detroit), plans to sponsor the legislation seeking relief of the penalties, which are set in state law. This legislative effort follows several years of groundwork by housing advocacy groups, as well as the Quicken Loans Community Fund, which has funded door-to-door campaigns to educate low-income residents in Detroit on how they may qualify for an exemption of property taxes. Laura Grannemann, Vice President of strategic investments for the Quicken Loans,Community Fund, said, in a statement: “The city’s announcement today shows a clear commitment to increasing access to exemptions and dramatically simplifying payment plans…Once enacted by the state, this legislation will change the landscape for low-income Detroit homeowners.” The pool of homeowners who could qualify for the proposed relief would amount to “half of the city” residents facing potential foreclosure for unpaid taxes, according to Mayor Duggan, who acknowledged, however, that the proposed fee and interest penalty forgiveness program would not help every homeowner in Detroit who is struggling to pay back taxes and avert foreclosure.

Part of the political challenge is that a conservative, Republican-controlled Legislature is almost surely going to resist granting additional tax debt relief five years after  the Legislature created the payment plan. Ergo, Mayor Duggan perceives the very-low income threshold for relief as having the most “realistic chance” of passing: “The easiest thing in the world as a politician is to stand up here and say, ‘I’m for everything, for everyone,’ when you know full well that when you actually get down to it, it’s not likely to get passed…We’ll see. By the time we’re done in Lansing, this will probably get modified. If we get more votes by making it more attractive, we’ll make it more attractive. If we get the votes to pass it by making it less attractive, we’ll make it less attractive.”

Housing & Undercutting Development & Recovery? At a hearing last week,  David Woll, Principal Deputy Assistant Secretary for Community Planning and Development at the Department of Housing & Community Development, testified: “All of us at HUD stand shoulder to shoulder with the people of Puerto Rico,” Woll said during the hearing: “At HUD we are committed to the recovery of all Americans whose homes and communities were devastated by natural disasters, and we are steadfast in our stewardship of the funding and trust in us by you in your colleagues in Congress.” Rep. David Price (D-N.C.) noted in response: “HUD did fail to comply with the law.” HUD was supposed to deliver funding notices to 18 states hit by natural disasters by September 4th: the agency, indeed, successfully published all the notices except for the one for Puerto Rico. The notice’s publication would have allowed the territory to begin crafting a plan to help manage the disaster relief funds. Indeed, to date, Puerto Rico has received a third of the nearly $43 billion Congress allocated towards hurricane recovery efforts two years after Maria ravaged the U.S. territory. Indeed, some HUD officials have previously expressed concerns with regard to potential misuse of funds in seeking to explain or justify why the Puerto Rico funds have not been disbursed. Indeed, the Deputy Assistant Secretary defended the delay again at the end of last week by claiming that the delay was caused by alleged corruption and financial irregularities. Deputy Woll also referenced an audit from HUD’s Office of Inspector General into “Puerto Rico’s capacity to manage these funds” and the upcoming appointment of a financial monitor to review the disbursement of the money.

Not Diana Ross, but the SupremesU.S. Supreme Court Justice Samuel Alito last week inquired: “Are you and your client here just to defend the integrity of the Constitution?…Or would one be excessively cynical to think that something else is involved here, involving money?” His query came in the wake of arguments from Donald Verrilli, for the PROMESA Board; Jeffrey Wall, for the federal government; and Theodore Olson, to whom the judge’s remarks were addressed. Mr. Olson’s client is Aurelius Capital Management, a hedge fund that invests in distressed debt. At stake are some $125 billion in creditor claims. (Aurelius was founded in 2006 by Mark Brodsky, formerly of Elliott Management. Both funds were involved in a fight with Argentina about its bonds five years ago, during which then President Cristina Fernández de Kirchner dubbed Aurelius “vultures.” The firm was among six funds which held out for full repayment. In 2016 they settled favorably and were paid a mere $9.3 billion. Aurelius now is seeking to get the U.S. Supreme Court to declare the Puerto Rico PROMESA Oversight Board unconstitutional, in the hope of improving on its offer to the territory’s creditors of 35-45 cents on the dollar.

The Issue: Under PROMESA, the Puerto Rico Oversight, Management and Economic Stability Act, Congress authorized the appointment of this oversight board to approve Puerto Rico’s budget and supervise its debts–somewhat akin to the chapter 9 municipal bankruptcy process in those states which have authorized municipal bankruptcy. Under PROMESA, then President Barack Obama was to appoint the board members, with no requirement to seek the Senate’s approval—which, according to our Constitution is needed for “officers of the United States.” Aurelius, in its brief, argues that this should cover the PROMESA Board members, and that, ergo, the PROMESA Board is unconstitutional. Indeed, both the Board and Trump Administration argue that the board’s business is “primarily local.” Lower courts, however, had disagreed. The Board was created to oversee bankruptcy proceedings unresolvable by Puerto Rico’s Governor, arguably implying that its powers supersede the Territory’s. But those lower courts also blessed the Board’s actions under the “de facto” doctrine, which allows actions by officials to stand, even if they are found to have been wrongfully appointed.

Last week, the Supreme Court devoted little time on the de facto doctrine; rather it focused on whether the Board acts locally, in the interest of Puerto Rico, or federally, in the interests of all Americans. Remarks from some of the Justices seemed to lean towards the latter—and thus towards Aurelius. Justice Elena Kagan noted: “One option could have been some kind of financial bail-out…(Congress “instead chose an option that had less financial cost for the American people as a whole. Justice Sonia Sotomayor probed the idea that the act gave the PROMESA Board members powers which ordinary local officials did not previously have.

Experts guesstimate the Court will render a decision by July: if it goes Aurelius’s way, it would be a mighty upset—and hugely disruptive for Puerto Rico. Already the PROMESA Board has collected and paid out claims, and issued $12 billion in bonds. Indeed, one federal witness noted: “I have no idea how one unwinds this.” From the hearing, the more conservative justices, who are in a majority, appeared to lean towards finding the Board Members to be Puerto Rican officers. That would appear to be a profound distinction from the intent of the Jones-Shafroth Act: indeed, as Justice Brett Kavanaugh asked of Mr. Olson: “If we conclude that the powers and duties here are primarily local…do you lose?”

But it certainly appears there will be few winners: already the PROMESA Oversight Board has concluded there may less money to pay bondholders than it has projected and Puerto Rico’s $18 billion in bank accounts allows for no additional money to pay bondholders, making those arguments in two documents it made public on the MSRB Electronic Municipal Marketplace Access web site last Thursday night: documents which had been circulated to bondholders over the last 30 days in confidential mediation talks. According to the Oversight Board, lower-than-projected levels of federal aid for reconstruction after Hurricane Maria may reduce economic growth. At the same time, government financial reports since Hurricanes Maria and Irma hit in late summer of 2017 have shown more revenue than either the PROMESA Board or the local Treasury Department had projected. Unsurprisingly, some bondholders have used those reports to urge a more generous settlement.

But the documents raise fiscal and governance doubts–as they make clear there has been a slow pace of disaster aid relief–and a concurrent deterioration of local or municipio government finances–enhancing the prospect that there might have to be quasi-chapter 9 municipal restructuring of the debts of those local governments.”

Professor Robert Chirinko of the U. of Illinois noted: “The Commonwealth Fiscal Plan Risks document does a nice job of discussing the many factors potentially affecting the surplus projections for Puerto Rico…Commonwealth Fiscal Plan Risks” points to several ways the PROMESA Board’s fiscal plan projections for revenue may be overly optimistic. As reactions to economic or political uncertainty, population could decline more quickly than had been projected. Another storm, financial crisis, or health epidemic could also be causes of greater migration.”

Puerto Rico could receive substantially less federal Hurricane Maria and Irma disaster aid than the plan had projected. The PROMESA Board’s “Commonwealth Fiscal Plan Risks” warns there might be a $30 billion shortfall on what it had projected to be $69 billion in aid, adding the FEMA assistance is also being delivered more slowly to the U.S. territory–even as the PROMESA Board said the federal government may also cut its funding of local Medicaid. In its report, the Oversight Board points out that 85% of the exceedance in FY2019 revenues compared with the May fiscal plan came from just four taxes: corporate income taxes, Act 154 foreign corporate excise tax, motor vehicles, and other General Fund revenue, indicating the potential fiscal vulnerability to Puerto Rico, because fiscal patters or experience often find that corporate income tax booms are usually followed by busts,: Puerto Rico is particularly susceptible because much of the corporate income tax revenue comes from just a few corporations.

With regard to structural reforms the report noted: “[T]he government is behind on implementing all of the major structural reforms required to drive economic growth on the island.” Of particular concern are the potential impact of energy and ease-of-doing-business measures. The board estimates the former would contribute $12.9 billion to surplus for fiscal year 2019 to 2049 and the latter would contribute $16.6 billion in that period. In addition, the Board said that its government fiscal measures are at risk. Due to local government inaction there is a possibility of reducing full time equivalent employment by 50% less than the fiscal plan envisions. That would cost Puerto Rico $20.3 billion from fiscal 2019 to fiscal 2049. In addition, the Board has determined that its efforts to curb healthcare costs are imperiled by poor implementation and new federal benefit requirements, noting that, together, these could cost the government $27.8 billion through fiscal 2049.

Mas Pena Adelante?  The PROMESA Board’s fiscal plan projects to reduce subsidies to the University of Puerto Rico and municipios; however, a lack of progress in lowering these costs could force the central government to continue these subsidies–a continuation which might cost $16.3 billion through FY2049, with the Board noting that just over one-fifth of municipios rely on Commonwealth government subsidies for at least 40% of their revenue, and 41% rely on these subsidies for at least 30% of their revenue.

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Restoring or Taking Away State or Local Authority?

October 11, 2019

Good Morning! In this morning’s eBlog, we consider the restoration of local control of the Detroit Public School system, before voyaging to the Caribbean to assess the challenge of governance in a U.S. Territory. 

Getting Schooled on Debt? The Detroit Public School District expects to emerge next year from strict state oversight put in place as part of its historic financial bailout, with Detroit Public Schools Community District Superintendent Nikolai Vitti this week noting that the district has posted three balanced budgets, has reserves, and has a $100 million fund balance. In his presentation to the Mayor and City Council this week, the Superintendent noted, further, that, combined with increasing enrollment and student achievement, positions the Motor’s City’s school district to have local control restored in January: “We’re optimistic that come January we should be released from that oversight: “It’s really continuing to empower Detroiters to make decisions for their own school district and not having outside entities review or influence those decisions.” The Superintendent noted that exiting from such oversight—pending an audit in January–would mean the School Board would have greater autonomy over the budget, as well as authority over how tax dollars are spent, without strict oversight from Detroit’s Financial Review Commission.

Detroit’s old school district (DPS)—over which the Governor had imposed emergency managers from 2009-16, had struggled with declining student enrollment, decrepit buildings, unsafe drinking water, budget deficits, school closures, low state assessment scores and teacher shortages. In 2009, DPS had accumulated a $116 million deficit in that year’s budget—and a more serious education deficit: only 16 percent of DPS juniors were proficient in math, and only 37 percent were proficient in reading, based on Michigan’s high-stakes state test. Then former Gov. Ric Snyder appointed Robert Bobb as Emergency Manager, in no small part based upon his former service as President of the Washington, D.C., Board of Education. Mr. Bobb cut the workforce by 25 percent, privatized janitorial and other services, and closed 59 public schools. He predicted he would end FY2009 with a $17 million surplus; instead, according to the Detroit News, he ended the year with a $98 million deficit; the overall debt load of the system had grown to $284 million. At that point in time, Detroit’s public schools had 95,000 students; by the 2014–15 school year, DPS had half as many students: 48,900. According to The Detroit Free Press, every family that could flee to Detroit’s suburbs did so to escape the “reformed” DPS. Moreover, the arithmetic was not working: In the wake of six years of emergency management takeover, The Detroit Free Press reported, the debt load stood at $483 million, even though 100 schools had been closed: DPS was $81 million behind in payments to the public school employees’ pension system. It remains unclear where those funds were utilized; however, by January of 2016, the Economist reported schools with black mold spreading over walls, collapsing ceilings, classrooms so cold that students wore coats inside, and rat infestations. Private schools flourished creating a virtual dual school system—and accelerating an exodus of families with children to the suburbs, further exacerbating both the revenue situation—and the disparities in the school system. By the summer of 2016, DPS was so close to chapter 9 municipal bankruptcy that the District used the public school employees’ escrow funds—money that employees had paid in over the school year, to be paid over the summer—and announced that teachers and other school employees would not be paid their own money over the summer.

Three years ago, Governor Snyder approved a $617 million bailout for the District to help pay off $467 million in operating debt and provide $150 million in start-up funding for Detroit Public Schools Community District, a new, debt-free district. In June of that year, the review oversight commission began its oversight of the city’s public schools, following the creation of the new Community District. Then Superintendent Nikolia Vitti said that under Gov. Snyder, state Treasurer Nick Khoury outlined the conditions the district would have to meet to be released from oversight—reporting: “We believe we’ve met those conditions.” On a parallel track, Detroit met its milestones and emerged from state oversight in a year ago last May 2018, a historic milestone which marked the first time in four decades that the Motor City had full control of its own government operations. Supt. Vitti this week also noted the most challenging issues for the District: teacher pay and funding for facility repairs. And the repairs—vital to safety of the children—and to enhancing public support for the city’s public schools in a city somewhat unique in its fiscal reliance on income taxes—needs every incentive possible to bring higher income families back into the city.

And that is a challenge: the Detroit News in April detailed the building conditions in the city’s public schools, repairs with a price tag anticipated to near $543 million and a District without authority to collect taxes to address it. Last Tuesday, Superintendent Vitti testified before the City Council the need to lobby the Governor and Legislature to address the fiscal inequities among school districts, including Detroit, as well as for a yet-to-be-identified statewide initiative to fund facility repairs. The state, he testified, “does not provide one cent for facility funding to any district,” as he reiterated he has had conversations with the state, the city, and its business leaders on possible solutions.

The old public school district has no municipal bonding capability and only functioned to manage the district’s legacy debt, which is $1.5 billion—a debt anticipated to be paid off in 2050 and another $450 million in operating debt which is scheduled to be paid off by 2025.

This occurs as Gov. Gretchen Whitmer’s proposed budget called for the state to switch to a “weighted-funding formula” that included additional funding per student for those with more costly education needs. That provision, according to Superintendent Vitti, was not adopted by the Legislature, which did opt to boost a per-pupil funding plan. Later this month, Vitti said, the district will begin a series of “community conversations” at the district’s high school buildings to discuss the condition of district buildings and needed investments as well as changes that already have taken place and others that are expected.

Municipal Bondholders & the Authority of a U.S. Territory. The U.S. Supreme Court has declined to take up a dispute over the assets of the Puerto Rico’s Employees Retirement System, leaving in place a lower court ruling which that found that municipal bondholders who own nearly $3 billion of debt issued by the retirement system have a legitimate claim on the pension fund’s assets, refusing to take up an appeal by the PROMESA Financial Oversight and Management Board of Puerto Rico; next week the Supreme Court is due to hear arguments in another case involving the Puerto Rico oversight board over whether the board’s members were lawfully appointed. Seventy-two years ago, Congress passed and former President Harry Truman signed a law giving the people of Puerto Rico the right to elect their own Governor; previously, all U.S. territories had been governed by persons appointed by the President and confirmed by the Senate; in 1947, however, voters in the territory elected Luis Muñoz Marín to commence what would become a transformative governorship. Now that process could change: the Supreme Court next week is scheduled to consider a case which could radically undermine the ability of over four million U.S. citizens—in Puerto Rico, other territories, and the District of Columbia—to elect their own chief executives: The court will consider whether a constitutional provision, the Appointments Clause, which ordinarily limits Congress applies when Congress legislates for a U.S. territory. That provision requires all “officers of the United States” to be appointed by a specified procedure, typically by the President with Senate confirmation. Because of this clause, it would be unconstitutional for Congress to allow voters to elect the Attorney General or Secretary of State; those officers must be appointed and confirmed. But on the assumption that the appointments clause does not apply to territories or the District of Columbia, Congress allowed for the election of Puerto Rico’s governor in 1947 and the Mayor of D.C. in 1973.

The PROMESA Board, under the statute, was appointed to restructure Puerto Rico’s multibillion-dollar debt. Describing the board as an agency of the Puerto Rican government, Congress even gave it power to revise the territory’s laws—seemingly a re-imposition of colonial supervision. Ergo, the island’s creditors went to court, asserting that the PROMESA Board’s members were appointed in violation of the appointments clause—an assertion rejected by a U.S. District Court on the ground that the Appointments Clause does not apply in the territories. But, last February, the United States Court of Appeals for the First Circuit reversed that decision that Congress is bound by the appointments clause everywhere: the court considered the unwelcome possibility that if the Appointments Clause applies to Puerto Rico, it might also require the appointment, not election, of Puerto Rico’s Governor or even the Mayor of the District of Columbia’s mayor; however, it distinguished these officers on the grounds that the Appointments clause applies only to “officers of the United States.” The court maintained that the Governor of Puerto Rico, by contrast, is an officer “of the territory,” suggesting that her authority comes from the Puerto Rican Constitution and not federal law.

Yet, just three years ago, in a different case, the same court emphasized that the Puerto Rican Constitution is United States law: Congress approved that Constitution and can amend it, which Congress effectively did with PROMESA. Territorial officers thus are officers of the United States in the same way that William Barr, as attorney general, is both an officer of the Department of Justice and of the United States. In addition, the U.S. First Circuit’s distinction between territorial law and U.S. law would not save the D.C. Mayor, whose authority undoubtedly comes from federal law. So if the Supreme Court upholds the First Circuit’s application of the appointments clause to Puerto Rico without offering a new explanation why the clause should not also apply to its Governor, it could undercut democracy in Puerto Rico and D.C. The promise of 1947 would, decades later, be broken. Stay tuned.

The Steep Road to Recovery in the Wake of a State Takeover: Rolling the Die?

October 9, 2019

Good Morning! In this morning’s eBlog, we consider new fiscal and governance challenges for Atlantic City, New Jersey. 

Connecting the Dots? Atlantic City Mayor Frank Gilliam has plead guilty in federal court to wire fraud for stealing $87,000 from a youth basketball league—actions which have forced him out of office, not unlike five of his predecessors over the last five decades—funds which had been promised to Connecting the Dots, a charity in the beleaguered city—with his appearance coming in the wake of nearly a dozen agents from the FBI and the IRS’ Criminal Investigation Division searching his home for more than four hours last December.

His plea agreement reveals a considerable amount of information with regard to his level of cooperation with the government. The deposed Mayor, who has posted a $100,000 unsecured bond for his release, faces a maximum sentence of 20 years in prison, according to the federal government, albeit it seems more likely he might be able to avoid prison time altogether when he is faces sentencing next January before Judge Joseph H. Rodriguez, especially given that his attorney has negotiated the offense level down so low it carries an advisory guideline sentence of just 15-21 months in jail. For her part, Connecting the Dots President Patricia Tweedle did not respond to questions with regard to whether Connecting the Dots conducts educational enrichment programs, such as the upcoming ACT/SAT training and Science, Technology, Engineering and Math training programs.

The New Jersey Attorney General’s Office has, to date, not responded to requests for comment about whether it is investigating what happened to the gala funds, but said that charities in New Jersey must register and report information about their fundraising to the state under the Charities Registration Act; however, according to the state’s Division of Consumer Affairs, Connecting the Dots has not registered with the state on its online data base.

Mayor Gilliam apparently commenced his involvement with Connecting the Dots at least as early as 2009. The charity gala in question marketed tickets starting at $300; sponsorships ranged from $500 to $35,000. The event was held at Resorts Casino Hotel with a lineup of celebrities, including former basketball player Dennis Rodman and WBA boxing champion Evander Holyfield. According to IRS 990 forms and the Internal Revenue Service, the organization reported $5,274 in donations in 2015, and it filed electronic postcard 990 returns in 2016 and 2017 which offered few details, but stated it did not raise more than $50,000 in either year. Mayor Gilliam was listed as working 10 hours per week for the group in 2015, but the 990 reported neither he nor others who worked 5-25 hours a week received any compensation.

How Might This All Affect Governance? The abrupt disruption appears unlikely to lead to any significant policy changes—especially as the city prepares to commence its fourth year under state oversight and intervention. City Council President Marty Small was sworn into office as acting Mayor at the end of last week—he had lost by a narrow margin in the Democratic Mayoral primary to Mr. Gilliam two years ago—he has been an elected leader in the city since 2003.  

The ever insightful Marc Pfeiffer, the Assistant Director of Rutgers University’s Bloustein Local Government Research Center, noted that the state’s ongoing oversight of the municipality’s fiscal situation should prevent any governance disruption,, noting: “The Mayor doesn’t have a lot of authority over running the city…They still have to give attentive to what the state has been doing,” referring to the restrictions imposed upon the city under the Municipal Stabilization and Recovery Act.

Former Mayor Gilliam had praised New Jersey Gov. Phil Murphy’s administration last April after the release of that fiscal plan—one which was intended to provide a fiscal road map for Atlantic City to recover via a collaborative effort with the state. Thus, at his swearing in ceremony last Friday, Mayor Small noted: “The vision and the direction doesn’t change…My colleagues on the City Council along with the State of New Jersey have worked incredibly hard to stabilize the tax base,” adding that he has been in contact with state officials since taking on the mayoral duties and that he expects his previous working relationship in Trenton as City Council President to enable a smooth transition. Department of Community Affairs spokeswoman Lisa Ryan on Monday said that the mayoral change will have no impact on the agency’s authority under the state takeover legislation.

Double Duty. In the nonce, during this governance transition, Council President Small is serving both in that capacity, as well as Acting Mayor—with the Council poised to make his new position official next week—with the term extending to the general election next year in November In the nonce, the combination of state oversight and new leadership has earned the city a four-notch upgrade from S&P Global Rating, which cited the city’s improved casino industry, and its efforts to diversify its tax base, whilst Moody’s analyst, Doug Goldmacher noted: “The removal of the Mayor of Atlantic City will have no credit impact…This would most likely be the case under normal circumstances and is even more certain given the state’s ongoing oversight of the city and its governance.”

What Might Innovation Augur for Puerto Rico’s Future?

October 8, 2019

Good Morning! In this morning’s eBlog, we consider the remarkable change in Puerto Rico’s economy. 

José Morey, a proponent of technology innovation, in a report has estimated that, notwithstanding the physical and fiscal devastation caused by Hurricane Maria—estimated at between $139-$159 billion—and the ensuing exodus of skilled and educated Puerto Ricans to the mainland, and guesstimated that over 40% of working Americans on the island of over 3 million inhabitants lost their jobs and have been unable to recover; nevertheless, there seems to be hope that science, technology, engineering, and math (STEM) could be a key factor in Puerto Rico’s recovery. On Puerto Rico, CiencaPR is a nonprofit which was established in 2010 with an emphasis on promoting STEM throughout the U.S. territory and creating future scientists. Parallel18 (P18) is a global accelerator for STEM startups that is already on its sixth generation of startups; indeed, it recently announced a partnership with Google Launchpad to further augment its startup’s global reach. The Puerto Rico Science, Technology and Research Trust leads many efforts across Puerto Rico to stimulate the economy via STEM-related projects and has already invested upwards of $50 million. It’s helped support CiencaPR and P18 as well. Now, many co-working spaces are popping up across Puerto Rico, such as Piloto 151, which provides corporate services at a reduced cost for multiple STEM startups at the same time. These types of efficiency and groups are integral in supporting startups as they gain traction in the marketplace.

Similarly, the space industry and NASA have secured a foothold in the Puerto Rican STEM community since the inception of the Arecibo Observatory, a radio telescope in the municipio of Arecibo, which, today, is the sole facility of the National Astronomy and Ionosphere Center. For more than half a century, until July of 2016, when China completed a larger version, the Arecibo Observatory’s 1,000-foot (305-meter) radio telescope was the world’s largest single-aperture telescope. It is used in three major areas of research: radio astronomy, atmospheric science, and radar astronomy; indeed, it has made exceptional contributions to science: from the detection of the rotation of Mercury in 1967, to the discovery of the first exoplanet in 1992, to the discovery of the first repeating fast radio burst in 2016. (NASA is continuing to push STEM on the island via partnerships with the Space Foundation in developing workshops for space entrepreneurship. FourthBrain—the brainchild of Andrew Ng, previously at Google DeepMind—is pushing the boundaries in artificial intelligence (AI) as far as NASA is in space. These endeavors could transform the territory into a powerhouse for AI engineering education.

From a legal perspective, the island is also ripe for disruption in STEM startups thanks to Law 101, and Act 20 and 22. Law 101 fosters research and development activity conducted at local universities in Puerto Rico, allowing qualified principal investigators or a co-principal investigator to seek tax exemptions for salaries earned from eligible R&D grants. Act 22 provides incentives to businesses to move to the island with exemptions on R&D and operational costs and Act 20 provides incentives for individuals.

Seeking Shelter & Recovery from the Storms

October 4, 2019

Good Morning! In this morning’s eBlog, we consider the slow, but seemingly steady progress for the City of Flint to recover for the federal government’s negligence; then we head south the Caribbean, where we note the difference in recoveries between Puerto Rico and the U.S. Virgin Islands. 

The Ongoing Health, Fiscal, and Steep Fiscal Road to Recovery in Flint. U.S. District Court Judge Linda Parker has refused to allow the federal government to go to the 6th U.S. Court of Appeals to claim it has immunity from claims brought by thousands of Flint citizens, who are seeking nearly $4.5 billion related to negligence by the federal government during the municipality’s drinking water crisis, noting that EPA failed to make timely warnings to residents of Flint. The federal government is seeking an appeal to the 6th U.S. Court of Appeals, after Judge Parker denied the government’s request to certify an interlocutory appeal to the U.S. Court of Appeals for the Sixth Circuit because her decision last April was based on a “too fact-intensive an inquiry.”

To the extent there is some good gnus, it is that the city’s water has continued to test below the federal threshold for lead during the first half of 2019, and Flint has uncovered enough service line data to validate its most recent sampling; the Michigan Department of Environment, Great Lakes, and Energy (EGELE) reported that 61 samples from “Tier 1” homes in Flint had a 90th percentile of 3 parts per billion for the first liter collected and 6 ppb under the new, stricter state rule that requires an additional sample (a change that came about after the Flint water crisis). Tier 1 sites are single family homes which either have lead service lines or lead interior plumbing, and the 90th percentile means 90 percent of samples collected contained 3 ppb or less of lead. Water sampling results from the first half of this year mean Flint water has tested below the federal threshold of 15 ppb of lead for 36 consecutive months after peaking at 20 ppb in the first half of 2016.

EGELE announced the results of the Lead and Copper Rule testing in a news release Wednesday, Oct. 2, and informed Mayor Karen Weaver of the results in a letter last Friday—a letter in which Mayor Weaver was told the city must notify its water customers of deficiencies in its testing and reporting program within 30 days after it initially failed to verify that its water samples came from enough homes with lead service lines or lead plumbing fixtures. The state, in the wake of a final report on its water testing Sept. 16, reported the city was able to verify enough of the homes it tested were at high risk of elevated lead, with Eric Oswald, the Director of EGLE’s Drinking Water and Environmental Health Division, writing: “While the city met the requirement of obtaining samples from at least 60 (high-risk) sites, not all documentation was submitted to EGLE by the July 10, 2019, reporting deadline…The city returned to compliance with the minimum reporting requirements with submittal of additional documentation on September 16, 2019…It should be noted that the city still has not confirmed, through any service line identification method, the material composition from 35 sites sampled as part of their compliance monitoring. We strongly encourage the city to confirm the service line material from these 35 sites and notify the homeowner of the composition.”

Disparate Fiscal & Physical Recoveries. Jason Bram, a research writer for the New York Federal Reserve, this week penned an insightful commentary comparing the remarkable fiscal rebound of Puerto Rico compared to the U.S. Virgin Islands, writing: “Two years after hurricanes Irma and Maria wreaked havoc on Puerto Rico and the U.S. Virgin Islands, the two territories’ economies have moved in very different directions. When the hurricanes struck, both were already in long economic slumps and had significant fiscal problems. As of the summer of 2019, however, Puerto Rico’s economy was showing considerable signs of improvement since the hurricanes, while the Virgin Islands’ economy remained mired in a deep slump through the end of 2018, though signs of a nascent recovery have emerged in 2019. In this post, we assess the contrasting trends of these two economies since the hurricanes and attempt to explain the forces driving these trends.” He noted, as background, that it mattered to understand the respective trends between the two Caribbean U.S. territories over the past decade—a period during which both had been in economic slumps since around 2006: “[I]n fact, from that time until just before the 2017 hurricanes, each area had sustained a roughly 16 percent drop in total employment as well as a sizable contraction in GDP. These protracted downturns were accompanied by high and rising public debt burdens, leading to a fiscal crisis in Puerto Rico and tremendous fiscal stress in the Virgin Islands. Severe disruptions in the aftermath of hurricanes Irma and Maria exacerbated these existing conditions, leading to a sharp drop-off in both employment and economic activity in the fourth quarter of 2017.

In assessing their recoveries, he noted: “we have a clearer sense of how deep and sustained the disruptive effects of the storms were on both territories: The Virgin Islands suffered a much steeper initial drop-off in employment (19%) than Puerto Rico (7%), and subsequently a much weaker and slower recovery,” noting that a year after Hurricanes Irma and Maria, private-sector employment was still down 13 percent in the Virgin Islands, but just 1 percent in Puerto Rico—thus, “more than 85 percent of the initial job loss in Puerto Rico had been reversed, compared with barely over 30 percent in the Virgin Islands. In fact, as of August 2019, employment in Puerto Rico’s private sector was actually slightly above pre-hurricane levels, whereas the Virgin Islands’ private-sector job count was still down more than 3 percent, based on the New York Fed’s early benchmarked estimates: “the deepest sustained post-hurricane job loss in any U.S. area, except for New Orleans following Katrina in 2005-07.” He noted that the differences in terms of wages and salaries were not nearly as wide.

Then he posed the query why there should have been such a divergence—responding to his own question by writing: “A number of factors may have contributed to the territories’ contrasting economic performance. First, the physical damage associated with the hurricanes may have been more widespread and severe in the Virgin Islands than in Puerto Rico. Two weeks before Maria, Hurricane Irma made a direct and devastating hit on St. Thomas and St. John—the northern islands of the U.S. Virgin Islands. Then Maria hit St. Croix head on, as well as Puerto Rico. It is not clear whether Puerto Rico’s much larger ‘footprint’ (area) was a help or a hindrance—on the one hand, the southwestern and western parts of the island were on the backside of Maria and did not experience quite as much wind damage; on the other hand, many interior parts of Puerto Rico were inaccessible for a long time.” Then he wrote that, mayhap more importantly, the differences between their respective economies mattered—noting that while Puerto Rico’s is diversified, with some sizable industries engaged in manufacturing, business services, the Virgin Islands’ economy is much more based on tourism. In the wake of the hurricane—as is often the case in the wake of major  local disasters—tourism-related industries, such as accommodation and restaurants were the hardest hit and the slowest to come back. In contrast, he wrote, “Puerto Rico’s professional and business services sector has seen substantial job gains since the hurricane. In fact, employment in that sector this year has been at record highs.” But he did not stop there: he wrote that even within specific industry sectors, “glaring contrasts exist between job trends in the two territories. In the vast majority of cases, Puerto Rico has seen significantly stronger job trends than the Virgin Islands. Many sectors—most notably leisure and hospitality and retail trade, both of which are key drivers of the Virgin Islands economy—have experienced far bigger job shortfalls in the Virgin Islands than in Puerto Rico since before the storm, as shown in the chart below.”

He also noted that another possible explanation is the minimum wage: “While Puerto Rico’s minimum wage has remained at the federal threshold of $7.25 an hour, the U.S. Virgin Islands ratcheted its minimum wage up from $7.25 in the first half of 2016 to $10.50 as of June 2018—a 45 percent rise—with the most recent increase coming when the territory’s economy was already severely disrupted by the hurricanes. Although recent research on adverse employment effects from minimum wage hikes has been mixed, it is plausible that such hikes may have exacerbated the disruptive employment effects of a natural disaster like the one-two punch of Irma and Maria. But the steep hike in the minimum wage and its upward effect on average wages may also help explain why the divergence between the two territories was much narrower for overall wage and salary income than for the job count.”

October 1, 2019

Good Morning! In this morning’s eBlog, we consider the slow, but seemingly steady progress for the City of Detroit in its efforts to reduce the nation’s highest violent crime rate. Then we look at the seemingly arcane issue of municipal bankruptcy—a unique governance issue in that only a “municipality” may file for relief under Chapter 9. 11 U.S.C. § 109(c), with “municipality” defined in the Bankruptcy Code as a “political subdivision or public agency or instrumentality of a State,” a definition broad enough to include cities, counties, townships, school districts, and public improvement districts—as well as public revenue-producing bodies which provide services which are paid for by users rather than by general taxes, such as bridge authorities, highway authorities, and gas authorities. However, in our unique form of federalism, a municipality may only file for chapter 9 municipal bankruptcy in states which so authorize it—currently, 12 do so specifically; 12 permit it conditionally; 3 provide limited authorizations, 2 generally prohibit such filings, and 21 states simply provide no authorization. We then journey south to Florida, to assess the state’s bar for a municipality or county to seek federal municipal bankruptcy protection..   

The Steep Fiscal Road to Recovery in the Motor City. On my very first morning in Detroit to begin a report on chapter 9 municipal bankruptcy—a day when my hotel advised it was too dangerous to walk the less than a mile to meet with Kevyn Orr, whom the then Governor had asked to come out from Washington, D.C. to serve as the Emergency Manager, July 18, 2013, Mr. Orr’s first actions were to email every employee to advise them he would—that morning—be filing for chapter 9 municipal bankruptcy: telling employees they were to report on time to work—and that the most critical priorities were to ensure that every street light and every traffic light was working—and that there was a swift and professional response to every 9-1-1 call—and that the city would focus on putting together a plan of debt adjustment in the U.S. Bankruptcy Court. Thus, he filed what remains the largest chapter 9 municipal bankruptcy filing in U.S. history by debt, estimated at $18–20 billion. In the wake of a nine-day trial on eligibility, the U.S. Bankruptcy Court on December 3, 2013, ruled Detroit eligible for Chapter 9 on its $18.5 billion debt; nearly a year later, in the wake of a two month trial, Judge Steven W. Rhodes confirmed Detroit’s plan of debt adjustment on November 7, 2014. While the city’s downtown today is vibrant—and much safer, compared to when the National League of Cities convened its annual meeting there in 1965—the city is still ranked as the nation’s most violent, according to FBI crime data released this week: last year, 13,478 violent crimes were reported—murder, rape, assault and robbery—in the city compared with 13,796 in 2017, a 2% drop. Detroit’s rate of 2,008 violent crimes per 100,000 people placed it highest among cities with more than 100,000 residents, followed by Memphis, Tennessee; Birmingham, Alabama; and Baltimore. In 2017, Detroit’s violent crime rate was the second highest of the nation’s big cities. According to the report, murders in Detroit were down to 261 last year from 267 the previous year; nevertheless, Detroit’s murder rate placed it fifth highest in the nation, behind only St. Louis; Baltimore; Jackson, Mississippi; and Birmingham.

Nevertheless, the plan of debt adjustment has demonstrated positive results—last Spring, Moody’s Investors Service gave the Detroit City Council’s FY2020 fiscal year budget high marks for using “conservative revenue assumptions” and socking away $45 million in surplus revenue to fund post-chapter 9 bankruptcy pension obligations coming due in five years, noting that the city’s $2.1 billion overall budget for this current fiscal year was a “credit positive: The credit-positive budget reflects sound financial practices, including conservative revenue assumptions and long-range projections, a significant capital investment and continues to set aside funds for a scheduled pension cost spike in fiscal 2024.” That budget plan adds $45 million to a $123 million trust fund Mayor Mike Duggan’s administration created to help the city shoulder its bankruptcy court-ordered resumption of full pension payments in FY2024. (Under the Motor City’s plan of adjustment, the city was relieved of making full pension payments for 10 years while an infusion of cash from philanthropic foundations and the State of Michigan supports the city’s underfunded pension systems…In 2024, Detroit’s plan of debt adjustment calls for normal pension payments to resume. Estimates for those payments have varied based on the current value of the city’s police and fire and general retirement systems—a plan modified two years ago when the city created a trust fund to “smooth” what Moody’s described as a “pension cliff,” allowing the city’s budget to gradually absorb higher pension payments. Moody’s report also noted that Detroit has set aside $100 million of its fund balance for capital improvements of city infrastructure, risk management, and demolition of blighted buildings.

At the end of FY2018 fiscal year, Detroit had a $225 million fund balance, according to its audited year-end financial statement. The Motor City’s FY2020 fiscal year budget reflects several top priorities for Mayor Duggan and City Council members, appropriating $3.6 million more toward affordable-housing projects and $7 million more for the Detroit Police Department for public safety measures. In addition, the City Council budgeted $5.25 million toward a three-year effort to remove 10,000 “dangerous trees” in neighborhoods where overgrowth has choked property lines and caused problems for utilities, according to City Council President Brenda Jones’ office.

The Governance Road to Municipal Bankruptcy in Florida. Under Florida statutes §§218.01 and 218.503, a gator or Florida municipality, to file for municipal bankruptcy, must be specifically authorized by the state, putting the state in a minority of twelve which authorize chapter 9 municipal bankruptcies only if the filing entity obtains approval from an elected official or state entity. (California, Connecticut, Kentucky, Louisiana, Michigan, New Jersey, North Carolina, New York, Ohio, Pennsylvania, and Rhode Island have similar provisions.) One of the nation’s most astute municipal fiscal distress experts, Ben Watkins, the Director of the Florida Division of Bond Finance, said the Gator state offers distressed municipalities the opportunity to apply for assistance from the state: a request which triggers the state’s provision of expert financial oversight under a financial emergency assistance program, albeit assistance in which no fiscal assistance is included. But filing for chapter 9 municipal bankruptcy is not in the basket of potential help—or, as Mr. Watkins has noted: “It’s been the long-standing policy not to grant permission for local governments to file for [chapter 9 municipal] bankruptcy. I do not anticipate that will change…It has been policy since I have been here and that goes way back to 1995.” Director Watkins said he did not know how many entities may have requested permission to file Chapter 9 cases during his long tenure, but he has noted that this practice, which has encompassed six gubernatorial administrations of both parties, of denying such requests is unwritten and that he has not discussed it with Governor DeSantis, noting: “There’s a whole statutory scheme dealing with local governments that are in financial distress that provides for a remediation [as opposed to] the nuclear solution, which is [chapter 9 municipal bankruptcy]…The real policy reason behind it is everyone, all local governments in Florida, would end up paying the price because of the uncertainty caused by the bankruptcy risk.” Mr. Watkins added that if the Governor asked for his recommendation with regard to chapter 9 municipal bankruptcy filings, he would advise against approving any, because of his “instinct and understanding of how investors think, which is if there’s uncertainty there’s a price.”

The nation’s most noted and experienced expert on municipal bankruptcy, Jim Spiotto, is of the view that the State of Florida’s policy makes sense, adding that it is one reason the state has “real credibility” in the municipal bond market because of its “perceived” chapter 9 bankruptcy policy, and he adds that bond investors study states to determine which ones have a significant number of Chapter 9 filings and which ones do not, noting that there is an increase in market risk if municipalities can file for municipal bankruptcy without some state oversight: “Anything states do to require approval significantly reduces the risk.”

A Plan of Debt Resolution for Puerto Rico?

September 30, 2019

Good Morning! In this morning’s eBlog, we consider the slow, but seemingly steady progress for the U.S. Territory of Puerto Rico to react and respond to natural disaster threats and to await the proposed quasi plan of debt adjustment from the PROMESA Board.

A Puerto Rico Plan for Debt Restructurings.  Long before Hurricane Maria devastated the U.S. territory of Puerto Rico in 2017, the territory was en route to bankruptcy—yet caught in a fiscal/governance twilight zone, because it is neither a state (states may not file for bankruptcy) nor a municipality (which may, if in one the our states which has specially allowed for such chapter 9 filings.) By 2017, Puerto Rico had amassed a debt of more than $70 billion; it had accumulated billions in more in uncovered pension obligations, and it was subject to faster migration, with hundreds of thousands, including some of its best graduating students, who were leaving for New York and Florida—leaving behind a higher percentage of Americans in poverty, and aging. In response, Congress passed the PROMESA Act, a quasi chapter 9-like process for the U.S. territory to recover. The act created a PROMESA Board—appointed by Congress—to oversee the development and implementation of a quasi-plan of adjustment—something which that Board presented last Friday, when it unveiled a plan intended to reverse that trend and put Puerto Rico on firm fiscal footing for the first time in decades.

The plan proposes a restructuring of some $35 billion in debt held by the territory, and the more than $50 billion in public pension liabilities—a plan not dissimilar in some ways with regard to pensions to the plans of debt adjustment in Detroit and Central Falls, Rhode Island. The plan also proposes that municipal bondholders take steep discounts. Should this quasi plan of debt adjustment gain approval from the court approval, it would reduce the amount Puerto Rico devotes to servicing its debt by about 30 percent to 9 percent of Puerto Rico’s annual revenue.

PROMESA Board Chairman José Carrión said: “Today we have taken a big step to put bankruptcy behind us and start to envision what Puerto Rico’s future looks like under fiscal stability and economic sustainability…Two years after the most severe Hurricane in more than 100 years hit Puerto Rico, after more than a decade of economic decline and fiscal disarray, after tens of thousands of Puerto Ricans left their island to find prosperity elsewhere, we have now reached a turning point.”

Under the proposed fiscal turnaround plan, Puerto Rico’s General Obligation bonds and Public Building Authority tax-exempt municipal bonds issued prior to 2012 would be hit with penalties of 35 percent and 28 percent, respectively. Holders of Employee Retirement System bonds would take an 87 percent reduction, according to the Board. For those holding Puerto Rican debt issued after 2011, debt which has been challenged as unconstitutional because it violated Puerto Rico’s own debt-limit rules, the PROMESA Board has recommended penalties ranging from 42 percent to 65 percent.

Just as, under their respective plans of debt adjustment, Detroit and Central Falls cut pensions to retirees—albeit more like in Detroit, where the cuts were modified so that no retiree would fall below the federal poverty line: thus, under the Board plan, public sector retirees who receive more than $1,200 a month would see their pensions cut by 8.5 percent.

It Aint’ Over Until It’s Over. While the PROMESA Board had reached agreements with a broad swath of bondholders, no white flag has been raised—and more funds will have to be forfeited, likely, to address claims from Wall Street firms with regard to Puerto Rico’s non- or partial payments on its debts, but many of the bondholders are average Puerto Ricans, people who depended on income from the bonds for their retirement. In a national address, Gov. Wanda Vazquez said she was generally opposed to pension cuts; however, she noted that rejecting this plan could incur an even greater risk —including pension reductions of up to 25 percent. She also said the deal would likely be amended repeatedly before it wins final approval. The real kicker, she noted: the proposed agreement would reduce Puerto Rico’s debt obligation by about 65 percent—or, as she put it: “I’m confident that at the end of this process, Puerto Rico will recover its financial autonomy and be on its way to economic recovery.”

Where’s Noah? The critical timing of this quasi plan of chapter 9 debt adjustment became even more clear in the wake of new U.S. Census data finding that, last year, some 133,500 Puerto Ricans left the island for the mainland—likely those most able to afford the move, leaving elderly and poorer Americans behind. Nevertheless, the Census date did include some good gnus: Puerto Rico’s poverty rate fell by 1.3 percentage points in 2018, to 43.1 percent; nevertheless, the new data is staggering: when compared to Mississippi, the poorest state on the U.S. mainland, which had a poverty rate of 19.7 percent.

In its statement, the PROMESA Board noted that in the wake of its appointment in 2016, “Puerto Rico’s government and public corporations…had amassed more than $70 billion in debt they could not pay and owed Puerto Rican retirees over $50 billion in unfunded pension benefits. The Puerto Rico government alone had to spend almost $3 of every $10 dollars in tax revenue just to service its debt.”