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By Nick Brown
NEW YORK, May 2 (Reuters) - Holders of Puerto Rican sales tax-backed debt sued the U.S. territory in the early hours of Tuesday morning, alleging its debt-cutting plans violate the U.S. Constitution and kicking off a likely deluge of lawsuits against the ailing island.
The complaint, filed in federal court in San Juan, accuses Puerto Rico’s leadership of impairing contractual rights of so-called COFINA bondholders, whose debt is backed by sales tax revenue, and trying to take their property in what they say are violations of the due process clause of the U.S. Constitution.
Ambac Assurance Corp, which insures $1.3 billion of COFINA debt, filed a similar lawsuit in San Juan federal court, alleging its constitutional rights were also violated, and including among its defendants Puerto Rico’s federal financial oversight board and each of the board’s seven members.
The board members and others authorities could not be immediately reached for comment as the lawsuits landed before dawn.
Puerto Rican officials have already imposed austerity, including cuts to worker benefits and pensions, and have said the debt cuts are needed to spare the already-poor island from even more severe cuts to quality of life.
With $70 billion in debt, a 45-percent poverty rate and near-insolvent public health and pension systems, a torrent of litigation could force Puerto Rico into a so-called Title III proceeding - an in-court debt-cutting process similar to U.S. bankruptcy.
Midnight, from Monday into Tuesday, marked the end of a freeze on creditor litigation under last year’s federal rescue law known as PROMESA, designed to encourage Puerto Rico and the oversight board to negotiate debt-cutting agreements with creditors.
With no deals reached, the expiration of the freeze opened the floodgates for stakeholders to take Puerto Rico to court, in hopes of blocking Governor Ricardo Rossello’s plan to impose drastic repayment cuts.
The COFINA plaintiffs - which include a local COFINA holder and hedge funds like Cyrus Capital Partners LP and Tilden Park Capital Management - accuse Puerto Rico, Rossello and other officials of angling to repurpose the tax revenue earmarked to pay COFINA debt.
The plaintiffs accuse Puerto Rico of taking their property “without just compensation or due process in violation of rights protected under the United States and Puerto Rico Constitutions.”
They cite as evidence a law signed by Rossello on Saturday that would give the government authority to redirect sales tax revenue into Puerto Rico’s general fund as part of a debt restructuring.
While both complaints ask the court to block Rossello from implementing a fiscal turnaround blueprint that was approved by the oversight board in March, Ambac’s also seeks to prohibit the filing of any Title III bankruptcy that is premised on that blueprint.
The fiscal turnaround blueprint has been the bane of island creditors, forecasting that Puerto Rico will have only $800 million a year to pay its debt, less than a quarter of what it owes, auguring big haircuts for all bondholders.
“Sovereignty confers great power, but it does not authorize lawlessness,” Ambac’s complaint alleges, adding that the board exacerbated the island’s abuses by ”giving its imprimatur to an ongoing scheme ... that can only be called theft.”
Filing a Title III bankruptcy would protect the island from lawsuits and give it more legal sway to impose the kinds of contractual alterations the plaintiffs are accusing it of undertaking illegally out of court.
Many experts and people involved in talks see bankruptcy as an eventual certainty, though timing is uncertain.
Tuesday’s lawsuits follow a restructuring offer from Rossello’s administration on Saturday that would have favored Puerto Rico’s general obligation bondholders, whose debt is guaranteed by the island’s constitution.
The plan would have seen GO holders recover as much as 77 cents on the dollar, while COFINA holders would have recouped just 58 cents.
Other defendants in the COFINA group’s lawsuit include Elias Sanchez, Rossello’s liaison to the oversight board; Gerardo Portela, director of Puerto Rico’s fiscal agent, known as AAFAF; and AAFAF itself. (Reporting by Nick Brown; Editing by Leslie Adler)