Fearing a national precedent may be set that could affect billions of dollars of municipal debt across the country, the National Federation of Municipal Analysts has filed a brief in Vallejo, Calif.’s bankruptcy case.
The NFMA said Tuesday it submitted an amicus curiae brief with the U.S. Bankruptcy Court for the Eastern District of California in favor of a motion by bond insurer National Public Finance Guarantee Corp. asking the court to allow a state credit-enhancement program to divert funds to pay owners of certificates of participation issued by Vallejo.
The motion is slated to be argued Oct. 4.
The motion concerns a state aid intercept program — the Vehicle Licensing Fee Enhancement Program — that secures some bonds issued by municipalities in California. Under such programs, revenues can be diverted away from an issuer and sent directly to a bond trustee for debt-service payments.
Vallejo has taken the position that the intercept mechanism is unenforceable given its Chapter 9 bankruptcy filing, and the revenues should continue flowing to the city even though it has defaulted on its debt-service payments, according to the brief.
Vallejo bankruptcy attorney Marc Levinson of Orrick, Herrington & Sutcliffe LLP Tuesday said the city “just disagrees with NFMA’s reading of the statutes and California law.”
He said the city will file a reply to the group’s position on or before Sept. 27.
The NFMA said denial of the motion would have a potentially devastating effect on access to capital for cities, towns, counties, school districts, and other municipalities in California as well as across the country.
It said in the brief that 34 similar intercept programs in 24 states, which underlie billions of dollars of debt issued by municipalities, are all potentially at risk of significant downgrades.
Failure of the court to enforce the intercept program would wash away the value of credit enhancement programs in the eyes of the capital markets, the brief said, denying relief to “cash-strapped” municipalities across the country.
“It is key to the credit enhancement for the [intercept] revenue to flow to the bondholders,” said Mark Stockwell, chairman of the board of governors of the NFMA and director of municipal research at PNC Capital Advisors in Philadelphia.
“We are concerned this would set a precedent for other state credit-enhancement programs across the country,” he said.
In August, National Public Finance Guarantee asked the judge handling the Vallejo bankruptcy case to order the resumption of state intercept payments that back one of Vallejo’s issues.
Vallejo filed for bankruptcy in May 2008, saying it had unsustainable labor contracts that rendered it unable to meet its obligations.
The bankruptcy filing affected $53 million of general fund backed debt, including the bond issue in question — $4.8 million of certificates of participation sold in 1999. The deal carried insurance by MBIA Insurance Corp., now operating as NPFG, as well as a debt-service reserve surety bond from the insurer.
The COPs were secured by vehicle-license fees and successor taxes that the state distributes to Vallejo. In connection with the 1999 COP issue, the city agreed to allow the state controller to intercept VLF payments to the city and remit them to the bond trustee in the event of non-payment.
NPFG has argued that the VLF pledge was not abrogated by the bankruptcy filing.
The insurer is asking Judge Michael McManus to issue an order affirming that the bankruptcy stay does not extend to the VLF payments, or to modify the stay to direct trustee Wells Fargo to ask the controller’s office to implement the VLF intercept under state law.
The 1999 bonds appear to be singled out for non-payment.
Vallejo began making reduced installment interest deposits on the 1999 COPs in fiscal 2010, according to a disclosure notice that trustee Wells Fargo filed in June with the Municipal Securities Rulemaking Board.
The city plans to completely suspend payments for four years, beginning July 1, according to a tentative workout plan not yet submitted to the court.
That plan anticipates that payments will continue on all 12 other bond and certificate issues for which Wells Fargo is trustee, the disclosure said. Those bonds are being paid as “special revenues” not sourced from the city’s general fund, according to the trustee.