IRS orders PREPA to repay BABs subsidies

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The Puerto Rico Electric Power Authority Palo Seco plant stands in Palo Seco, Toa Baja, Puerto Rico.

The Internal Revenue Service has ordered the Puerto Rico Electric Power Authority to repay five quarterly federal subsidies it received under the Build America Bonds program for each of two series of bonds totaling $675.7 million.

The two series are $355,730,000 Power Revenue Bonds, Series EEE and $320,175,000 Power Revenue Bonds, Series YY.

PREPA said the IRS sent it letters dated July 10 seeking a “full refund of the direct pay bond credits under Internal Revenue Code Section 6431 for certain interest payment dates.”

PREPA filed for federal bankruptcy protection on July 1, 2017 after failing to reach a deal to restructure its $9 billion in debt.

The IRS repayment request involves federal subsidy payments made after the bankruptcy filing when the bankruptcy trustee stopped making payments to the bondholders.

The first of the five quarterly payments dated July 1, 2017, was received after the bankruptcy filing date. Three subsequent quarterly payments were made before IRS stopped payments in April 2018. The fifth payment was mistakenly made by the IRS in January 2020.

“We will likely go to appeals as the most realistic option, but there are also implications we are sorting out with the deal being in bankruptcy,” Kristin Franceschi, an attorney for PREPA who is a partner at DLA Piper, said in an email.

PREPA filed a public event notice in February 2019 that the IRS had begun an audit of the $320.2 million in 30-year BABs, which were issued in April 2010 with a coupon rate of 6.125%.

BABs receive a 35% federal subsidy on their interest payments, although that subsidy is subject to a federal budget sequestration reduction which varies each year. In the 2019 federal fiscal year, for instance, the cut was 6.2% of the 35% subsidy. That shaved 2.17 percentage points off the subsidy, reducing it to 32.83%.

The PREPA bonds are not an obligation of the commonwealth or any of its municipalities.

PREPA’s debt restructuring also remains on hold because of the COVID-19 pandemic.

Puerto Rico bankruptcy Judge Laura Taylor Swain in April agreed with a request to postpone the June 17 and 18 hearings on the Restructuring Support Agreement and also postponed an April 14 deadline for government parties and other RSA parties to file replies in support of the deal approval motion.

The Puerto Rico Financial Oversight and Management Board late last month certified its 2020 fiscal plan for PREPA which included a warning that without restructuring, “PREPA would need to repay approximately $4.5 billion of legacy debt service obligations over the next five years.”

“In the longer term, PREPA’s estimated annual debt service obligation based on term out of all long-term financial liabilities at a 5% interest rate over 25 years, is approximately $657 million per year,” the Oversight Board said.

“PREPA has maintained a growing and unsustainable debt balance over the past decade,” the Oversight Board also said. “As long as PREPA remains in Title III, the utility will not have effective access to capital markets to fund critical grid modernization and improvement plans.”

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Puerto Rico Electric Power Authority IRS Build America Bonds Washington DC