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).

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 1^st, 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.

Following up on one of the Administration’s legislative proposals to address Puerto Rico’s fiscal crisis, on October 22, 2015, Senator Robert Menendez  introduced a bill “The Earned Income Tax Credit and Child Tax Credit Equity for Puerto Rico Act of 2015” (S. 2203), to make residents of Puerto Rico eligible for the earned income tax credit.  S. 2203 was co-sponsored by 8 other Democratic senators (Senators Gillibrand, Schumer, Blumenthal, Booker, Heinrich, Sanders, Warren and Murphy). The bill has been referred to the Senate Committee on Finance.  This bill is related to a bill (H.R. 3552) previously introduced by Representative Pedro Pierluisi, which has been referred to the House Committee on Ways and Means.

On October 21, 2015, U.S. Treasury Secretary Jacob J. Lew, National Economic Council Director Jeff  Zients, and Health and Human Services Secretary Sylvia Mathews Burwell unveiled a legislative proposal, a copy of which is attached,  to help Puerto Rico address its serious fiscal challenges.   The Administration has requested Congress to act promptly to amend chapter 9 of the Bankruptcy Code authorizing the troubled public corporations to file bankruptcy petitions.  More than twenty Democrats have become co-sponsors of that  proposed amendment, but no Republicans making passage of the proposed amendment unlikely.

The Administration’s proposal has four central elements:

• Legislative amendments to provide Puerto Rico with an orderly restructuring regime to comprehensively address its financial liabilities by restructuring its debts.
• Establishing an  independent fiscal oversight to certify that Puerto Rico adheres to the recovery plan it is implementing in a credible and transparent way.
• Reforming the Commonwealth’s Medicaid program to  ensure that the program provides better access to healthcare services.
• Providing the Commonwealth with access to the Earned Income Tax Credit (EITC).

As part of the bankruptcy proposal, the Administration has proposed a “Super Bankruptcy” for the Commonwealth itself.  The Administration’s proposal contemplates a “Super Bankruptcy” that would be reserved for U.S. territories to allow a comprehensive restructuring of all of the territory’s liabilities. The outline states that:

The restructuring regime should provide the basic protections of bankruptcy: a stay on creditor collection actions, priority for new private short-term cash flow financing, and voting by creditor classes on any proposed restructuring. Such an approach would, among other things, provide breathing space for consensual negotiations and ensure the uninterrupted provision of essential public services.

Proposal.