Sewer customers of Alabama's Jefferson County asked a judge to void the $3 billion in refinanced bonds that pushed the county into bankruptcy and replace the debt with a lower amount.

A group of state and local elected officials filed a lawsuit yesterday that repeated the previous allegations they made against several groups including investors that hold the debt, the banks behind the refinancing, a law firm involved in the transaction and bond insurers that guarantee the debt.

Sewer customers, county tax assessor Andrew Bennett, elected officials from the Birmingham City Council and the state legislature claim refinancing deals in 2002 and 2003 included interest-rate swaps that were illegal under Alabama's constitution and were designed only to benefit investors and the banks.

"There is no credible evidence that could reasonably support a conclusion that the swap warrants were a remotely reasonable financial restructuring," according to the complaint filed in U.S. Bankruptcy Court in Birmingham.

The county is trying to negotiate a plan to cut its debt and end the biggest municipal bankruptcy ever filed in the U.S. In July county officials began talks with creditors, including the banks and bondholders named in the lawsuit.

The county filed for bankruptcy last year after elected officials and creditors failed to implement a proposal to cut the sewer debt by about $1 billion.

The county was named as a so-called nominal defendant. The main targets are the banks, including JPMorgan Chase & Co. and the trustee who represents the bondholders, Bank of New York Mellon Corp. The sewer customers and the elected officials are seeking class-action, or group, status to represent about 140,000 residential and industrial property owners.

Kevin Heine, a spokesman for Bank of New York Mellon, and Elizabeth C. Seymour, a JPMorgan spokeswoman, weren't immediately available in their New York offices to comment on the lawsuit today.

The plaintiffs will try to prove that bondholders' liens on sewer revenues are invalid, which would weaken the investors' legal argument that they must be fully repaid.

The swap transactions under attack refinanced about $2.68 billion in debt the county took on to upgrade the sewer system so it met federal standards. The refinancing increased the debt to more than $3 billion.

After the transaction, county auditors reported a $368 million loss associated with the transaction. In the complaint, the elected officials claim the deal illegally inflated the debt by at least $372 million. They want U.S. Bankruptcy Judge Thomas B. Bennett to require the county to repay only the original $2.68 billion.

In June, council members filed a claim against the county for $1.6 billion in overcharges from the sewer system arising from alleged "criminal activity" by managers. The judge told them to file the lawsuit.

The case is In re Jefferson County, 11-05736-9, U.S. Bankruptcy Court, Northern District of Alabama (Birmingham).

Subscribe Now

Independent and authoritative analysis and perspective for the bond buying industry.

14-Day Free Trial

No credit card required. Complete access to articles, breaking news and industry data.