Posts by: Lorraine McGowen

Supreme Court to Decide Extent of Puerto Rico’s Sovereign Powers

On Wednesday, January 13, 2016, the U.S. Supreme Court will hear arguments in the appeal styled under the caption Commonwealth of Puerto Rico v. Sanchez Valle, No. 15-108. In this case, the Supreme Court is asked to determine whether Puerto Rico and the United States are separate sovereigns for purposes of the Double Jeopardy Clause contained in the Fifth Amendment of the U.S. Constitution. Puerto Rico wants to be able to prosecute crimes in its courts even though the federal government had already prosecuted respondents for those same crimes. In order to do that, Puerto Rico and the United States must be treated as separate “sovereigns.”

On December 23, 2015, the United States Solicitor General filed an amicus brief on behalf of the United States taking the position that Puerto Rico and the United States are not separate sovereigns for purposes of the Double Jeopardy Clause. The United States asserts that U.S. territories, such as Puerto Rico, are not sovereigns.[1] This position is contrary to the position taken by Puerto Rico. Instead, the United States asserts that territories are under the sovereignty of the United States and subject to the plenary authority of Congress. (Brief for the United States as Amicus Curiae Supporting Respondents (“U.S. Amicus Brief”) filed in Commonwealth of Puerto Rico v. Sanchez Valle, No. 15-108, at 7.) The United States argued that “In the Territories of the United States, Congress has the entire dominion and sovereignty, national and local, Federal and state, and has full legislative power over all subjects upon which the legislature of a State might legislate within the State.” (Id. at 16.) The United States further argued that “Puerto Rico’s transition to self-government did not change its constitutional status as a U.S. territory. The United States did not cede its sovereignty over Puerto Rico, and Puerto Rico did not become a State or an independent nation.” (Id. at 21). As stated previously, Puerto Rico takes the position that it is a separate sovereign and, as such, it is able to separately prosecute crimes in its courts even if the federal government has already prosecuted for the same crimes.

Sanchez Valle will be the first of two appeals to be heard by the U.S. Supreme Court this term involving Puerto Rico. As we had previously reported, by order dated December 4, 2015, the Supreme Court also agreed to consider the appeals by the Commonwealth and the Government Development Bank regarding the constitutionality of the Commonwealth’s Debt Enforcement & Recovery Act (DERA) in the appeals styled under the caption Puerto Rico v. Franklin California Tax-Free Trust, 15-233, and Acosta-Febo v. Franklin California Tax-Free Trust, 15-255 (the “Franklin Fund Appeals”).

The Supreme Court’s decision in Sanchez Valle could have an impact on the Supreme Court’s decision regarding the constitutionality of the DERA. In filing its amicus brief, the United States asserted that “The Court’s decision [in Sanchez Valle] . . . may affect the federal government’s defense of federal legislation and policies related to Puerto Rico across a broad range of substantive areas, including congressional representation, federal benefits, federal income taxes, bankruptcy, and defense.” (Id. at 1). The hearing on the Franklin Fund Appeals has not yet been scheduled, but briefs by the parties will be filed in the coming weeks.

Monolline Insurers Challenge Puerto Rico’s Exercise of ClawBack Rights

On January 7, 2016, Assured Guaranty Corp., Assured Guaranty Municipal Corp. and Ambac Assurance Corporation (collectively, the “Monolines”) commenced an action in the United States District Court for the District of Puerto Rico against the Governor of Puerto Rico and certain other officials in an action styled under the caption Assured Guaranty Corp. et. al v. Alejandro Gracia Padilla et. al, No. 16-cv-1037. The Puerto Rico Constitution and applicable statutes allow Puerto Rico to use certain pledged revenues to pay interest and principal on “public debt” due in that year if other available resources (including surplus for any fiscal year) of the Commonwealth are not sufficient to meet appropriations for that year. The Puerto Rican Constitution provides that interest and principal on the public debt due that year shall first be paid, and other disbursements shall thereafter be made in accordance with the order of priorities established by law.

As previously reported, Governor Padilla issued Executive Order OE-2015-046, instructing the retention or transfer of revenues pledged by the Puerto Rico Highways and Transportation Authority (PRHTA), the Puerto Rico Infrastructure Financing Authority (PRIFA), the Metropolitan Bus Authority (AMA), the Integrated Transport Authority (ITA) and the Puerto Rico Convention Center District Authority (PRCCDA) as security for bonds previously issued by those agencies. In this action, the Monolines are challenging the constitutionality of the Governor’s executive orders authorizing the clawback of certain revenues pledged by PRHTA, PRCCDA and PRIFA. While acknowledging that the pledged revenues were subject to clawback to pay public debt, the Monolines assert that Puerto Rico was not authorized to “claw back” or divert the pledged revenues where other available resources exist from which public debt could be paid. The Monolines also assert that the executive orders violate the Takings Clause and the Due Process Clauses of the Fifth and Fourteenth Amendments of the U.S. Constitution.

The following is a table of the major litigation involving Puerto Rico’s troubled finances.


The following is a table of the major legislation that has been introduced to address Puerto Rico’s troubled finances.


[1] Other U.S. territories include American Samoa, Guam, the Northern Mariana Islands, and the U.S Virgin Islands (U.S. Amicus Brief at 15, n.2).

Update on Puerto Rico

Supreme Court to Determine Constitutionality of DERA

By order dated December 4, 2015, the US Supreme Court has agreed to consider the appeal by the Commonwealth and the Government Development Bank regarding the constitutionality of the Commonwealth’s Debt Enforcement & Recovery Act (DERA). In requesting the Supreme Court to consider its appeal, the Commonwealth stated that this case “presents a question of extraordinary importance and urgency and that the lack of a bankruptcy framework is hindering negotiations to reach a restructuring agreement.

Supervisory Oversight Board

On November 17, 2015, the Puerto Rico legislatures sent to the Governor for signature an act to create an independent local supervisory board to be called the “Board for the Financial Supervision and Economic Recover of Puerto Rico” (Senate Bill 1513; House Bill 2718) (the “Act”). The Act represents a compromise amongst versions introduced by the Governor of Puerto Rico (that would have created a local fiscal control board) and what was passed by the each of the Puerto Rico legislative houses. The Act creates a five-member independent supervisory board which will be tasked with reviewing and endorsing a five-year consolidated fiscal and economic plan to be submitted by Governor Padilla’s working group (described below).

The legislatures have identified that the goal of the Act is to reduce and eliminate the fiscal deficit, while promoting an economic growth which will guarantee the welfare of the Commonwealth residents and the payment of debt.

The Board members will be appointed by the Governor with the advice and consent of the Senate.

  • Membership Requirements
    • must have knowledge, expertise and at least 10 years of experience in finance, management, law, social sciences, economics or the organization or operation of business or government entities, and at least 3 of whom must possess material knowledge regarding governmental operations of the Commonwealth;
    • may not be a holder of, or advise or represent, any holder of any bonds issued by a government entity of the Commonwealth or hold interests in funds that hold more than 10% of their funds invested in such bonds;
    • may not, at the time of their appointment or during the preceding 5 years, be a director, officer, employee or contractor of the Commonwealth or any its entities, and in respect of a contractor, may not have been a contractor for the restructuring of debt of the Commonwealth or its instrumentalities as of the date of adoption of the Act.
  • Members of the Board are prohibited from representing or advising any holder of any bonds or notes of the Commonwealth or any governmental entity or any trustee of any such bonds or notes in any lawsuit or in anticipation of any lawsuit for collection of money or breach of contract related to such bonds or notes against any government entity for a period of five years from the date on which he/she ceased to be a member of the board.
  • Board Powers. Subject to the affirmative vote of 3 members, the Board will:
    • review and “endorse” the Working Group for Economic Recovery of Puerto Rico’s 5-year Fiscal and Economic Growth Plan (the “Plan”) submitted to the Board. The Act provides that the Plan is to be submitted before the end of the second quarter of the 2016 fiscal year. (The Working Group was appointed by the Governor and includes his chief of staff, the President of the Government Development Bank, the Secretary of Justice and the Presidents of the Senate and the House.)
      • The Board will have 30 days to review and endorse the Working Group’s draft plan for economic and fiscal growth or make recommendations to the Working Group. If the Board makes recommendations, the Working Group will have 20 days to submit a new draft plan for economic growth.
      • Once the plan has been endorsed by the Board, the Working Group will start negotiating agreements with creditors of the “audited entities” necessary to implement the Plan.
      • Upon necessary agreements are reached with creditors, the Governor will issue an executive order approving the Plan and agreements with creditors, if applicable. Those measures requiring legislative action will be presented to the Legislative Assembly in accordance with the timetable provided in the Plan.
    • Certify compliance or non-compliance of the annual budget adopted by the Commonwealth and each audited entity in connection with the Plan. If the Board does not issue a certificate of compliance, the Board may make recommendations and revisions to the budget necessary to ensure compliance with the Plan.
    • Monitor and issue notices of default and non-compliance to the Governor, the office of Management and Budget (OMB), the Chair of the Senate and House of Representatives and the appropriate audited entity, and will publish such notification on the Board’s website and the controlled entities, and make recommendations to ensure compliance with the approved budget.
  • Audited Entities
    • Commonwealth
    • Public corporations of the Commonwealth (other than PREPA or PRASA)
    • Other Commonwealth department or agency (other than an Excluded Entity)
  • Excluded Entities
    • PREPA
    • PRASA
    • Departments or agencies of the Judicial Branch
    • Legislative Assembly and its departments
    • Office of the Controller
    • Office of Government Ethics
    • Office of the Panel of Independent Special Prosecutors

The Act also amends the enabling law of the Office of Management and Budget (Law No. 147 of June 18, 1980) to require that the estimated revenue of the Commonwealth be confirmed by an independent third party selected by the Board of Tax Supervision.

The Act also creates a special reserve fund (a Budgetary Control Reserve) for each of the audited entities, representing 2.5% of the total appropriations for operating expenses and special appropriations. The reserve fund will be held by OMB and will be released by OMB periodically during the fiscal year if the audited entities have complied with certain budgetary controls set forth in the Act.

Exercise of Constitutional Clawback

On December 1st, Governor Padilla issued Executive Order OE-2015-046, instructing the retention of revenues assigned to the Puerto Rico Highways and Transportation Authority (PRHTA), the Puerto Rico Infrastructure Financing Authority (PRIFA), the Metropolitan Bus Authority (AMA), the Integrated Transport Authority (ITA) and the Convention Center District Authority. The Executive Order indicates that it does not affect funds that are necessary for the operation of the affected corporations. The order requires retained funds to be kept in a segregated account. Pursuant to the Executive Order, the retained funds will only be used for payment of public debt when due and, if not necessary, the funds will be remitted to the affected corporation for payment of its respective obligations.

The rating agencies have indicated that PRHTA and the Convention Center District Authority likely will be able to make debt service payments on January 1, 2016 and possibly July 1, 2016 notwithstanding the diversion of funds by the clawback. Some reports have indicated that the clawback revenue retained could reach $329 million by the end of the current fiscal year in June.

Special Session to Be Announced for Consideration of PREPA Bill

The Chief of Staff for the Governor of Puerto Rico confirmed that the Governor likely will be convening soon a special legislative session to consider the Puerto Rico Electric Power Authority Revitalization Bill, one of the conditions necessary in order to implement the restructuring plan negotiated between the utility and two creditor groups. No date has been set yet for the start of the special session.

Congressional Hearings

The U.S. Senate Judiciary Committee held a hearing on Puerto Rico on December 1, 2015 entitled, “Puerto Rico’s Fiscal Problems: Examining the Source and Exploring the Solution”. The Governor and Representative Pedro Pierluisi, among others, testified. Republican legislators remain skeptical about amending Chapter 9.

First Circuit Rules Bankruptcy Code Preempts Puerto Rico’s Recovery Act

On Monday, July 6, the Court of Appeals for the First Circuit affirmed the February 6, 2015 order and injunction of the Puerto Rico District Court and held that section 903(1) of the Bankruptcy Code preempts the Puerto Rico Debt Enforcement and Recovery Act (the “Recovery Act”).  Franklin Cal. Tax Free Trust, et al. v. Commonwealth of Puerto Rico, et al., (1st Cir. July 6, 2015) (Case No. 15-1218): On February 10, 2015, we reported on the district court’s decision holding that the Recovery Act was unconstitutional.

As a result of amendments to the Bankruptcy Code in 1984, Puerto Rico, unlike states, may not authorize its municipalities, including its public utilities like PREPA or PRASA, to seek federal bankruptcy relief under chapter 9 of the Bankruptcy Code. In considering the appeal of the district court’s order, the Court first confirmed that it had jurisdiction to consider the bondholders’ claims of preemption, that those claims were ripe and that they had become ripe immediately upon adoption of the Recovery Act. The Court then ruled that the Commonwealth’s effort to allow its public corporations to restructure their debt by enacting the Recovery Act is expressly preempted by the federal Bankruptcy Code. Rejecting the Commonwealth’s arguments that the 1984 amendments made the preemption provisions of section 903(1) of the Bankruptcy Code inapplicable, the Court stated that “§ 903(1) has applied to Puerto Rico since the predecessor of that section’s enactment in 1946. The statute does not currently read, nor does anything about the 1984 amendment suggest, that Puerto Rico is outside the reach of § 903(1)’s prohibition. Op. at 4. Because the Court affirmed the district court’s order and injunction, the Court declined to consider the Commonwealth’s appeal of the district court’s order denying motions to dismiss the bondholders’ Contracts Clause and Takings Claims. Op. at 21.

Read More.

Rep. Pierluisi Introduces Bankruptcy Code Amendment to Permit P.R. Municipalities to File Under Chapter 9

Just days after the United States District Court for the District of Puerto Rico struck down the Commonwealth’s efforts to pass its own insolvency regime, Resident Commissioner Pedro Pierluisi introduced the “Puerto Rico Chapter 9 Uniformity Act of 2015” into the U.S. House of Representatives last week.  The bill, which is substantively similar to one introduced in 2014, would allow the Commonwealth of Puerto Rico to authorize its insolvent public corporations to file a chapter 9 petition; they currently are not able to do so.  The bill, H.R. 870, has been assigned to the House Judiciary Committee and is scheduled for a hearing before the Subcommittee on Regulatory Reform, Commercial and Antitrust Law on February 26th.  H.R. 870, 114th Cong. (1st Sess. 2015)

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Puerto Rico Debt Recovery Act Ruled Unconstitutional

On Friday February 6, the Puerto Rico Federal District Court ruled the Debt Enforcement and Recovery Act (the “Recovery Act”) unconstitutional.  Franklin Calif. Tax-Free Trust, et al. v. Comm. Of Puerto Rico et al., (D.P.R., Feb. 6, 20150)(Case No. 3:14-cv-01518-FAB).

The opinion is extensive and addresses each of the constitutional challenges raised by both Blue Mountain and the Franklin/Oppenheimer plaintiffs, and the Commonwealth’s request that the bondholder complaints be dismissed as being “unripe”, among other defenses.  The Court confirmed federal jurisdiction and ripeness of the bondholders’ claims of preemption, impairment of contracts and certain of the taking clause claims. The Court said that those claims became ripe immediately upon adoption of the Recovery Act. Most importantly, the Court has ruled that the entire act is preempted expressly by the federal Bankruptcy Code and is therefore void pursuant to the Supremacy Clause of the United States Constitution. The Court further ruled that the Commonwealth is permanently enjoined from enforcing the Recovery Act.

A summary of the key findings by the Court is provided below. The Court also dismissed the claims against PREPA. The Court held that the mere fact that PREPA may commence an action under the Recovery Act at some future time is not sufficient to assert claims against PREPA. The Court noted that “if PREPA’s filing for debt relief pursuant to the Recovery Act were imminent, this could be a sufficient injury traceable to PREPA.”   (Decision at 26-27).

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Summary of Puerto Rico Public Corporation Debt Enforcement & Recovery Act

On June 28, 2014, the Commonwealth of Puerto Rico adopted the Puerto Rico Corporations Debt Enforcement & Recovery Act, Act 71-2014 (the “Debt Enforcement Act”), enabling certain Commonwealth public corporations in financial distress to restructure their debt obligations. The Debt Enforcement Act establishes a debt enforcement, recovery and restructuring regime for public corporations and other instrumentalities of the Commonwealth economic emergency. The goal of the new law is to balance the interests of creditors and other stakeholders with the interest of the Commonwealth to protect its citizens and to enable the financially distressed public corporations to continue to provide essential government services such as the delivery of electricity, gas and clean water.  Read More.