The financial institutions suing MBIA Inc. over what they believe is a fraudulent restructuring today filed a petition in New York State court to appeal the decision made by New York regulators that allowed the restructuring.

The petitioners have filed the action in New York State Supreme Court under Article 78 of New York Civil Practice Law and Rules. They had already filed a lawsuit against MBIA Inc. and its subsidiaries in the state's Supreme Court alleging a fraudulent conveyance that has left them with insurance from MBIA Insurance Co., which the plaintiffs believe to be "insolvent."

MBIA has defended itself by saying that the New York Insurance Department approved the transaction and also that the plaintiffs could only challenge the restructuring through Article 78 proceedings. The petitioners believe that MBIA's arguments are "erroneous," and they do not believe the approval letter from the department precludes them from bringing their fraudulent conveyance suit, but they filed the petition to keep open all their options, a lawyer representing the banks said.

"The MBIA policyholders made today's Article 78 filing in order to preserve all of their potential challenges to MBIA's fraudulent restructuring before the expiration of any statutes of limitations," Sullivan & Cromwell lawyer Vince DiBlasi said in a statement. "The MBIA policyholders are pursuing their fraudulent conveyance and other claims against the MBIA defendants in the fraudulent conveyance action they commenced in New York State Supreme Court on May 13, 2009, and they believe that the fraudulent conveyance action is the appropriate avenue for obtaining the relief they seek."

The Insurance Department says it is "confident that the court will uphold the [state insurance] superintendent's determination to approve the transaction."

"We will review the papers, and respond at an appropriate time," a department spokesman wrote in an e-mail.

As part of the restructuring announced in February, MBIA split its public finance and structured finance books. In addition to the banks, a group of hedge funds have sued MBIA in federal court, saying the restructuring benefited public finance policyholders at the expense of structured finance policyholders.

The financial institutions say in the Article 78 petition that the fraudulent restructuring left MBIA Insurance Co. — which kept the structured finance book — "undercapitalized and insolvent."

The financial institutions say the Insurance Department made "several serious errors" when issuing the approval letter. They say they were given no chance to comment on the restructuring before it occurred.

The petitioners are asking for the letter to be declared null and void, for MBIA Insurance to recover the dividend it paid to MBIA Inc., and for a declaration that the approval letter does not "extinguish" their fraudulent conveyance claims.

"The NYID's decision to issue the NYID letter approving the $1.147 billion dividend, and the $938 million transfer of cash and securities, and the transfer of MBIA Illinois common stock, from MBIA Insurance to MBIA Inc. in connection with the fraudulent restructuring, exceeded the NYID's jurisdiction and violated insurance law," the petition says.

Elsewhere in the bond insurance arena today, Standard & Poor's downgraded bond insurer CIFG NA to CC from BB. The outlook is negative.

"This rating action reflects our view of the significant deterioration in the company's insured portfolio of non-prime residential mortgage-backed securities," analyst Dick Smith said in a statement. "The deterioration has necessitated that CIFG strengthen reserves to account for high projected claims."

CIFG's policyholders' surplus stands just $22.9 million above the New York insurance law's $65 million minimum. Assured Guaranty Corp. earlier this year agreed to reinsure $13 billion of CIFG's U.S. public finance portfolio.

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