The board said late Monday the debt includes all general obligation bonds that were issued in 2012 and 2014 in "clear violation" of debt limits established by Puerto Rico's Constitution. A group of unsecured creditors that joined the motion also said the debt violates balanced budget requirements because the money was used to finance deficit spending.
If a federal judge agrees with the allegations, bondholders would lose their investments. The board's findings comes after a lengthy investigation that began in September 2017 of all debt issued by Puerto Rico and its connection to the island's current fiscal crisis.
"This really is a milestone," Puerto Rico economist Jose Caraballo told The Associated Press on Tuesday. "It is perhaps the board's best move in its two years of existence." It is unclear when a judge would rule on the board's motion, but Caraballo said it gives the government bargaining power, noting that Detroit made a similar move during its bankruptcy. He said those who bought general obligation bonds during that time might accept a big cut instead of risking a total loss. Caraballo said the majority of them are hedge funds, not individual investors.
"It was a very speculative emission," he said. "They ran the risk of lending to a government they knew was in trouble and ignored the margin established in the Constitution." No government officials have been accused of issuing debt above the limits established in Puerto Rico's Constitution. The island's now-defunct Government Development Bank, which issued loans and oversaw debt transactions, ceased operations in March amid a 12-year recession.
Puerto Rico is trying to restructure a portion of its more than $70 billion in public debt, and a federal judge is scheduled to hold a two-day hearing starting Wednesday on a major debt restructuring case involving bonds backed by a sales-and-use tax.
An activist group, Hedge Clippers, praised the control board for its move on allegedly illegal debt and said it should also cancel the debt involving sales-and-use tax bonds. "Even in this moment of light, the board continues to put the interests of the bondholders pushing an agreement that will have disastrous effects for the Puerto Rican families," the group said.
Puerto Rico's government announced in June 2015 that it was unable to repay its debts and declared a form of bankruptcy in May 2017.