Puerto Rican Debt Crisis: A Proposal to Amend Federal Bankruptcy Law

Ashley B. DiLiberto

Puerto Rico is deeply in debt, and this United States territory is in desperate need of help.  Puerto Rico owes approximately $72 billion to its creditors, and the financial avalanche is creating chaos in the lives of millions of Americans.  Although the devastating effects are not limited to those on the island, citizens living there are uprooting their lives to other cities in the United States, schools are closing, and the labor force is continually dwindling.

There have been several proposals to try to get Puerto Rico back on its feet, such as allowing Puerto Rico’s public utilities to declare bankruptcy.  Although Chapter 9 of the U.S. Bankruptcy Code allows a municipality, with its state’s permission, to restructure its debts through bankruptcy, a 1984 amendment to the bankruptcy laws “define[s] Puerto Rico as a state for every purpose except filing for Chapter 9, which governs municipal bankruptcy.” 

This means that although Puerto Rico has admitted it is unable to pay back its creditors, neither Puerto Rico nor any of its public agencies (which owe much of the debt), cities or other municipalities has access to United States bankruptcy protection.  A whopping one-eighth of the island’s $72 billion total debt is due to a single Puerto Rican public company, PREPA (the Puerto Rico-owned electric company).  PREPA likely could file for Chapter 9 bankruptcy if Puerto Rico were considered a state.  However, as the law currently stands, Puerto Rico is not a state for purposes of permitting its municipalities to file for Chapter 9 bankruptcy.  Therefore, without a prompt federal amendment to the bankruptcy law to give Puerto Rico equal rights as states for purposes of Chapter 9 bankruptcy, the world may be forced to watch Puerto Rico’s economy crumble, and the 3.5 million U.S. citizens of Puerto Rico, as well as the entire U.S. economy at large, will feel the effects of this catastrophe. 

There are arguments that we must uphold the idea that we all have a responsibility to pay our debts, and that a “bail out” is simply unacceptable.  Many creditors resent bankruptcy protection as unfair and seeming to reward irresponsible behavior and breaches of promises to pay one’s debts, because the losses suffered by creditors who encounter bankrupt and impecunious debtors can sometimes be passed on to responsible financially honest consumers, whose costs increase to make up for those losses.  However, Puerto Rico’s financial crisis is not simply a result of overspending or irresponsibility.  The circumstances that left Puerto Rico in this desperate need of financial restructuring were to a great extent out of Puerto Rico’s control.

Financial troubles began in Puerto Rico when the United States government offered major tax breaks to corporations working in Puerto Rico.  In 2006, Congress ended these tax breaks, and since then, Puerto Rico has experienced the following vicious cycle that led to its recession: people began fleeing from the island in search for better economic opportunities, which led to less people paying taxes, which forced Puerto Rico to increase tax rates and cut back public services, which then caused even more people to flee the island.  To make matters worse, other United States tax breaks had allowed Puerto Rico to issue triple tax-free debt, which was exempt from federal, state and local taxes.  Institutional investors and bond mutual funds were particularly drawn to this kind of debt, and made loans to Puerto Rico in more generous amounts and for a much longer duration than they would have without this tax break.

Finally, while “the typical state . . . [only] spend[s] about 5 percent of its tax revenue on payments of interest and principal to bondholders, . . .  in Puerto Rico, . . . payments on this type of debt [are] now consuming an unsustainable 36 percent of the island’s tax revenues.”  Without a solution that would forgive, or at least restructure, the debt of Puerto Rico’s municipalities, this impossible and crushing amount of debt service will ultimately ruin the island.  Puerto Rico should not be forever destroyed by this one poor financial chapter in its existence, especially considering that the island’s debt is due to a multitude of circumstances, many of which were outside of its control.

After all, Congress’s intent in enacting the Bankruptcy Code was to give the bankrupt party an opportunity to have a “fresh start,” restructure its debt, and move on with new business or personal ventures in an effort to allow continued commerce and business relationships without eternally being ruined by an unfortunate economic period.  The Code was intended to allow entities to have their debts forgiven or diminished significantly, while allowing the creditors to respectively recover amounts owed to them in diminished percentages if the bankrupt party has assets remaining.

Congress intended to protect the entities within the United States.  It gave bankruptcy protections to the municipalities of all fifty states, and “[t]here is no basis for . . . unequal treatment” of those in Puerto Rico (a United States territory).  Puerto Rico deserves to be considered a “state” under the Code so that its municipalities are afforded the equal protection of the laws given to the municipalities of the fifty states for several reasons.

First, to hold otherwise reeks of discrimination and bias to our island brothers and sisters.  Second, Puerto Rico must be given the chance to regain its financial health in order to protect millions of citizens who call Puerto Rico home.  Over “3.5 million Puerto Ricans residing on the island, and about 5 million living stateside, are U.S. citizens who have contributed immeasurably to this nation.”  These citizens and their ancestors have “given their lives for the U.S. when it has needed protection” and it is now our turn to offer them protection in return.

Third, the economic impact of Puerto Rico “going out of business” would have ripple effects in every state of the United States whose citizens rely on Puerto Rican exports and benefit from importing goods to Puerto Rico.  The United States is a major trading partner to Puerto Rico, with the island exporting chemicals, electronics, apparel, canned tuna, rum, beverage concentrates and medical equipment.  Puerto Rico had estimated exports of over $69 billion of products and imports of over $47 billion in 2013.  Puerto Rico also has four medical schools accessible to United States citizens.  Finally, Puerto Rico is a major tourism center for citizens of the United States and the world.

If the Code is not amended to permit Puerto Rico’s municipalities to file for Chapter 9 bankruptcy protection and restructure their debt, millions of people will continue to be laid off, educational institutions will continue to shut down, social services will be cut, important Puerto Rican exports will terminate, the tourism industry will be demolished, and the island will ultimately cease to exist as we know it.

The federal government must act now to redefine Puerto Rico as a state for the purposes of Chapter 9 of the Code.  America cannot sit back and watch one of its own territories crumble.  It is implicit in our country’s name that we must be united and supportive of our several states and territories in times of need.  It is time we do just that.

Ashley B. DiLiberto is a third year student at Delaware Law School and the Copy Editor of the Delaware Journal of Corporate LawShe also serves as President of the Delaware Law School Food and Drug Law Association.  Ashley will sit for the Delaware Bar Examination in July.

Suggested Citation: Ashley B. DiLiberto, Puerto Rican Debt Crisis: A Proposal to Amend Federal Bankruptcy Law, Del. J. Corp. L (March 28, 2016), www.djcl.org/blog.

This entry was posted in djcl. Bookmark the permalink.