CHICAGO Fitch Ratings Wednesday renewed its warning that if the bankruptcy court approves Detroit’s plan to treat unlimited tax GOs as unsecured debt, it could have a broad impact on how the agency rates such debt, particularly in Michigan.
Fitch issued its report in anticipation of Oct. 1, when Detroit is expected miss the first scheduled general obligation bonds payments since its July Chapter 9 bankruptcy filing.
Detroit emergency manager Kevyn Orr’s plan to treat the city’s unlimited-tax GOs as unsecured has rattled the market. The move marks a departure from traditional treatment of ULTGOs, typically considered among the strongest tax-supported municipal debt because they enjoy an issuer pledge to levy property taxes without limitation.
“Detroit’s landmark bankruptcy sets the stage to confirm or challenge basic premises underlying municipal debt credit ratings,” the rating agency said in the special report on Detroit that outlines its stance on the bankrupt city’s various credits.
“The emergency manager’s decision to treat ULTGO and LTGO bonds and post-employment benefit payments as a single class of creditor is at odds with Fitch’s prior expectations. If it is confirmed in bankruptcy, it will lead the agency to rethink the distinctions made between tax-supported ratings within Michigan and perhaps nationally,” the special report warns.
Fitch said it anticipates a shift in its rating on Detroit’s unlimited tax and limited tax GOs to default status come Oct. 1. The bonds are currently rated C.
The rating agency assigns a D to Detroit’s certificates of participation because the city in June defaulted on debt service payments for those securities.
Fitch said if the city’s pension benefits are not subject to adjustment in the bankruptcy, then the GO debt effectively becomes subordinated, clarifying the priority of payments between GOs and pensions in a way that would raises concerns for the agency.
“If the Detroit case signals a shift towards lumping these obligations together and not levying taxes to support the apparently affordable ULTGO debt already approved by taxpayers, the outcome will lead Fitch to reconsider the impact on ratings,” said Fitch managing director Amy Laskey, a lead author of the report.
Fitch also reiterated its position that protections on the city’s water and sewer debt as special revenue bonds under a Chapter 9 bankruptcy proceeding are reflected in their investment grade ratings.
The report also underscores Fitch’s position that the strong oversight of the state’s local governments under Michigan Act 436’s is offset by the weak support for Detroit bondholders.
“The city’s bankruptcy filing demonstrates that state intervention mechanisms do not preclude credit deterioration or default,” the report reads.