Puerto Rico bond investors argue over a key source of cash


Investors in Puerto Rico’s bonds argued in court Tuesday over which group has a claim on sales-tax revenue that could be used to recoup their money.

In Manhattan federal court, Judge Laura Taylor Swain, who is overseeing the record $70 billion bankruptcy-like proceedings for Puerto Rico, heard about four hours of oral arguments from attorneys representing the dueling creditor groups. Both believe they have first right to the money for bond payments.

The matter is a key issue as the island restructures its debt. Puerto Rico first defaulted on its general obligation bonds in July 2016, when it failed to pay roughly $1 billion owed to its creditors, and hasn’t made any payments since.

The general obligation bondholders, including a number of U.S. hedge funds, say the sales tax receipts, an important source of cash, are legally theirs first under the commonwealth’s constitution. Opposing them are bondholders of Puerto Rico’s Sales Tax Financing Corporation (or “COFINA,” for its acronym in Spanish), who say they have the first claim.

The order of priority is crucial as bondholders fight to recover as much of their investments as possible. If the judge decides the commonwealth has the first right to future taxes, that would mean general obligation bondholders get paid before COFINA bondholders, which could leave COFINA bondholders with much lower recoveries in the bankruptcy process.

The general obligation bonds have about $18 billion outstanding, and COFINA has about $17 billion.

Mark Stancil, an attorney for general obligation bondholders, referred to COFINA as an “off-book financing scheme,” and said “Puerto Rico needs to go back to Constitutional intent.”

Susheel Kirpalani, the lead attorney for investors holding $4 billion in COFINA bonds, argued that the island’s legislature earmarked the tax revenue for COFINA.

In May 2017, Swain ordered COFINA’s trustee to hold all future interest and principal payments due to bondholders in escrow until a decision is made about which creditor group has the legal first right to the funds.

An engaged Swain directed a slew of questions to attorneys for both sides, ranging from what the definition of a pledged sales tax is to the interpretation of the island’s debt limit clause and whether it should apply to COFINA.

Swain did not make a ruling from the bench on Tuesday but did thank the attorneys for answering her questions, which she described as “very serious, very difficult and quite consequential to Puerto Rico.”

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