December 7, 2021

Volume XI, Number 341


December 06, 2021

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Could Bondholders Bring Claims Against Puerto Rico Bond Issuers in Courts Outside Puerto Rico?

As Puerto Rico prepares to access the public markets with a new bond issue, the Wall Street Journal reports that the list of demands from some potential investors include, in addition to a high interest rate and as much security as the issuer can provide, the issuer’s consent to the adjudication in the New York courts of any future disputes involving the applicable bonds.

Hoping for the best but preparing for the worst, holders of existing bonds issued by Puerto Rico and its bond-issuing instrumentalities (such as COFINA) are likewise engaged in prospective forum-scouting.   The desired option to litigate any potential dispute outside Puerto Rico may be driven by the assumption that in times of financial crisis Puerto Rico’s courts are less likely to side with off-island investors than with Puerto Rico’s bond issuers, however meritorious the bondholders’ claims may be.

Questions of court jurisdiction over a sovereign entity or sovereign instrumentality are complex and nuanced, and require individualized analysis regarding the applicable entity, the applicable court and the applicable dispute.  But a few basic general observations may be of interest to those involved with Puerto Rico’s ongoing bond saga:

  • A Puerto Rico bond issuer and its bondholders may contractually agree (in a bond resolution or indenture or, in the case of general obligation bonds issued without a resolution or indenture, in the bonds themselves) on exclusive or non-exclusive jurisdiction in the courts of Puerto Rico or in the courts of another state.  Courts will generally enforce such contractual choice-of-forum clauses.

  • Absent any contractual agreement, Puerto Rico or a Puerto Rico instrumentality may be sued in the courts of Puerto Rico unless such issuer has sovereign immunity and has not waived it.  Puerto Rico itself, and many but not all of its agency issuers, likely qualify for sovereign immunity in Puerto Rico’s courts.  The extent to which such immunity has been waived for particular claims would likely be at issue in any litigation in Puerto Rico’s courts.

  • Under the Eleventh Amendment to the U.S. Constitution, which applies to the states and has also been held applicable to Puerto Rico, Puerto Rico and its instrumentalities generally cannot be sued for money damages in the U.S. federal court system, absent a waiver of such Eleventh Amendment protection by the applicable issuer.   It may be possible to obtain injunctive relief against a Puerto Rico issuer in federal court without an Eleventh Amendment waiver by such issuer.

  • Neither Puerto Rico’s sovereign immunity in its own courts nor its Eleventh Amendment protection from being sued in the U.S. federal courts apply to a suit against Puerto Rico or a Puerto Rico instrumentality in the state courts of New York or of any other state, although individual states may, as a matter of “comity”, opt not to exercise jurisdiction over other states or other sovereigns.  New York’s highest court to date has declined to use “comity” as a basis for protecting other states from defending financial claims brought in New York courts, referencing “New York’s recognized interest in maintaining and fostering its undisputed status as the pre-eminent commercial and financial nerve center of the Nation and the world.” However, as a constitutional due process matter, a Puerto Rico issuer would need to have sufficient “minimum contacts” with the applicable state to warrant the exercise of jurisdiction by that state, and would have to have engaged in acts described in the so-called “long-arm jurisdiction” statute of the applicable state governing jurisdiction by its courts over non-domiciliaries of such state.  Though these are highly fact-specific matters, New York’s status as “financial nerve center” increases the odds that a Puerto Rico bond offering would involve a variety of contacts with New York.

All of which is to say that:

  • If bondholders succeed in obtaining contractual agreement by a Puerto Rico issuer to jurisdiction in New York’s state courts, any future dispute relating to the bonds could be adjudicated in New York’s courts.  A New York litigation forum, in addition to eliminating any perceived home turf advantage a Puerto Rico issuer would have in the courts of Puerto Rico, would also likely benefit bondholders by eliminating the need to establish a sovereign immunity waiver by any such issuer that would otherwise be entitled to assert sovereign immunity before Puerto Rico’s courts.

  • If bondholders purchase or hold bonds under a resolution, bond indenture or other agreement that requires that any dispute be adjudicated in the courts of Puerto Rico, any future dispute relating to the bonds would be adjudicated in Puerto Rico’s courts.

  • If there is no contractual provision governing jurisdiction, bondholders may be able to litigate any contractual dispute against a Puerto Rico issuer in the courts of New York, or of another state that has no statutory or common law preclusion on hosting litigation against another sovereign without that sovereign’s consent, if the Puerto Rico issuer has had sufficient contact with the applicable state to satisfy constitutionally required minimum contacts and the applicable long arm statute.

©1994-2021 Mintz, Levin, Cohn, Ferris, Glovsky and Popeo, P.C. All Rights Reserved.National Law Review, Volume IV, Number 35

About this Author

Leonard Weiser-Varon Coporate and Finance Law Attorney Mintz Law Firm

Len specializes in municipal and corporate debt transactions,  represents state sponsors and private program managers of Section 529 college savings programs and Section 529A (ABLE) disability savings programs, and is often invited to speak on securities and constitutional law issues impacting finance. He also regularly writes on public finance matters and has been recognized as one of the top public finance lawyers in Massachusetts in a peer survey by Massachusetts Super Lawyers.

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William W. Kannel, Bankruptcy Attorney, Mintz Levin Law Firm, Bankruptcy & Restructuring Insolvency & Creditor Rights Litigation Directors & Officers Litigation Chapter 9 & Municipal Insolvency Litigation

Bill is a nationally recognized bankruptcy attorney with extensive experience in corporate and municipal reorganizations and debt restructurings both in and out of court. He represents creditors and debtors across a wide range of industries throughout the country in all phases of distressed debt negotiations, bankruptcy litigation, and distressed asset acquisitions. Bill is also recognized as one of the leading attorneys in the nation for his work representing bond trustees and bondholders in Chapter 9 bankruptcies and other governmental and municipal insolvencies.

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