Detroit Bond Insurer Sues Over Proposal to Cut Payments

National Public Finance Guarantee Corp. and Assured Guaranty Municipal Corp. (AGO) sued Detroit, claiming a proposal by the bankrupt city’s emergency manager to cut payments to general obligation bondholders is illegal.

The two companies insure about $233.2 million in bond debt issued from 1999 to 2006 for public works projects. When the city defaulted on a $9.4 million interest payment for the bonds, the companies were forced to pay bondholders, according to the complaint filed today in U.S. Bankruptcy Court in Detroit. The insurers said the city should use tax proceeds to pay the bondholders.

“The City of Detroit is now unlawfully diverting voter approved ad valorem taxes that the city must levy and collect for the sole purpose of paying principal and interest on the unlimited tax bonds,” the bond insurers said in court papers.

Before putting Detroit into bankruptcy on July 18, the city’s emergency financial manager, Kevyn Orr, proposed canceling about $2 billion in bond debt and reducing $3.5 billion in unfunded pension liabilities. Those debts would be replaced with about $2 billion in new notes, forcing bondholders and the pension systems to accept less than what they are owed.

‘City Disagrees’

“The city is reviewing the suits and will respond appropriately in court, but suffice it to say the city disagrees with the allegations and characterizations made by the plaintiffs,” Bill Nowling, Orr’s spokesman, said in an e-mail.

Under Michigan law, the proceeds of the ad valorem taxes -- taxes on real estate and other property -- levied and earmarked specifically to secure the repayment of the unlimited tax bonds are “restricted funds that cannot be collected and used by the city for any other purpose except to satisfy the city’s repayment obligations with respect to the unlimited tax bonds,” according to the filing.

The city has indicated that it intends to continue to levy and collect the restricted funds and will continue to use the money to pay for general operations, in violation of Michigan law, the insurers said in court papers.

The restricted funds are intended to finance city projects and systems specifically outlined in documents governing the sale and issuance of the unlimited tax bonds, according to the complaint.

Bar Use

The insurers also contended the city has made clear it won’t segregate restricted funds as state law requires. They’re asking the court to require segregating the funds and to bar their use for any purpose other than repaying holders of unlimited tax bonds.

Bond insurers have been involved in all the large municipal bankruptcies filed since Vallejo, California, started the current wave in 2008.

The bankruptcy case is City of Detroit, 13-bk-53846, U.S. Bankruptcy Court, Eastern District of Michigan (Detroit).

To contact the reporters on this story: Dawn McCarty in Wilmington at dmccarty@bloomberg.net; Steven Churchin U.S. Bankruptcy Court in Detroit at schurch3@bloomberg.net

To contact the editor responsible for this story: Andrew Dunn at adunn8@bloomberg.net

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