The Commonwealth of Puerto Rico defaulted on most of its $422 million May 1, 2016 debt service payment on Monday owed by the Government Development Bank which acts as Puerto Rico’s fiscal agent.
Puerto Rico did pay $23 million representing the interest due. However, the remaining $399 million that was not paid represented the principal.
The May 1 default will likely spark lawsuits from creditors. Last month, a group of hedge funds that own Government Development Bank bonds filed a complaint in federal court asking that the Bank be barred from allowing the withdrawal of funds.1

As previously reported on March 25, 2016, the U.S. Congress drafted a plan that would not grant Puerto Rico’s most fervent request, permission to restructure its entire $72 billion debt in bankruptcy, but would give the island certain crucial tools that bankruptcy proceedings can offer – but only if it first comes under close federal oversight and meets other conditions. An oversight board would audit Puerto Rico’s government, improve operations, find savings and ultimately determine how much of the $72 billion debt has to be restructured.2
On Monday, May 2, 2016, U.S. Treasury Secretary Jacob J. Lew renewed his call on Congress to act swiftly on resolving the financial crisis in Puerto Rico warning in a letter to House Speaker Paul Ryan, which was circulated to other lawmakers, that without a legal framework for a debt restructuring, Puerto Rico is in danger of getting caught in “a series of cascading defaults” that could lead to a taxpayer bailout. “This is not just a matter of financial liabilities and litigation.” Mr. Lew also cited signs of mounting woes, including the closing of hospital facilities on the island and the struggle to contain the spread of the Zika virus with scant financial resources available.
Congressional aides said they agreed that the latest default showed an urgent need to establish federal oversight and restructuring powers for the island, but they could not see a way to speed up the process. Republican politicians crafting the emergency legislation have faced an intense lobbying backlash, including attacks that have characterized the bill as a bailout.3
In 1984, Congress said Puerto Rico, as a U.S. territory, could not use bankruptcy laws that govern U.S. states. But federal bankruptcy law also dictates that no state can pass local debt-restructuring laws and in one provision Puerto Rico is defined as a state. The amendment that year also barred the District of Columbia, without leaving any legislative history or indication of intent.
As previously reported, Puerto Rico presented its case to the U.S. Supreme Court on March 22 of this year. Seven Justices heard the arguments. The four liberal Justices signaled support for legislation to relieve the island territory of its debt burden.4
Puerto Rico’s Governor Alejandro Garcia Padilla had declared a moratorium on Government Development Bank debt obligations due May 1 in what he characterized as a “painful decision,” with policymakers in Washington still some distance from uniting behind a rescue package for the island.
The missed May 1, 2016 payments by the Government Development Bank mark the most significant default in the financial crisis and will start the clock on a 60 day countdown before the island faces $2 billion in payments on July 1, 2016, including on its most senior debt. A default on its general obligation bonds, considered sacrosanct by creditors, could send shudders through the $3.7 trillion municipal bond market.
Regarding the draft legislation before the U.S. Congress, Governor Garcia Padilla said “We do not want a bailout. We haven’t asked for a bailout. A restructuring process will cost nothing to American taxpayers.”5
Endnotes
  1. Walsh, Mary Williams, “As Puerto Rico Defaults, Eyes Turn to Washington,” The New York Times, May 3, 2016, and Gillers, Heather, “Puerto Rico Bank Won’t Make Most of Payment,” The Wall Street Journal, May 2, 2016.
  2. Peluso, Romano I. “Puerto Rico Presents Its Debt Crisis Case To The Supreme Court,” Perkins Coie LLP, corporatetrustinsider.com, March 25, 2016.
  3. Endnote 1.
  4. Endnote 2.
  5. Platt, Eric, “Puerto Rico on course for default as bank misses payments,” Financial Times, May 3, 2016.