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Puerto Rico edges back towards default precipice

NEW YORK (Reuters) – Puerto Rico once again is teetering on the brink of default with roughly $1 billion in payments coming due Jan. 1, which could open the door to litigation and even messier debt negotiations with creditors while further damaging the reputation of the debt-laden U.S. territory in the capital markets.

The tiny Caribbean island, suffering from a near decade-long recession with a 45 percent poverty rate and a shrinking tax base due to people leaving the island, first defaulted in August when it failed to make the full payment on its Public Finance Corp bonds.

Governor Alejandro Garcia Padilla has argued that the island’s debt, totaling around $70 billion, is not payable and requires restructuring. Puerto Rico has been negotiating with creditors to try and persuade them to take a reduction.

Puerto Rico’s plight has also gained increasing attention in Washington D.C., where the U.S. Treasury has been pushing Congress to allow the island to restructure its debts under U.S. bankruptcy law. The House is expected to hold a Jan. 5 hearing on Puerto Rico’s financial problems.

The Jan.1 payments – which amount to roughly $1 billion according to a source familiar with the situation – is the island’s next test. The largest portion is general obligation debt of around $330 million although separate sources cited slightly different figures for the exact amount.

“There’s a very high degree of certainty that they wind up in court if they don’t pay on the GOs,” said Moody’s Senior Credit Officer Ted Hampton, who said not paying other classes of debt could also leave it vulnerable to litigation.

Skipping a payment on the GO bonds could be a jolt to the municipal bond market as GOs are viewed as safe. Puerto Rico’s GO bonds are backed by the good faith, credit and taxing power of the commonwealth and its bond documents state that such debt will constitute a first claim on available commonwealth resources.

John Miller, co-head of fixed income for Nuveen Asset Management, which holds around $300 million in par value of insured Puerto Rican paper, said that not paying GO debt would be “very negative” for Puerto Rico bonds.

A GO default could be the most significant since Detroit defaulted on GO bonds in 2013.

Daniel Hanson, analyst at Height Securities, said in a recent research note that he believes Puerto Rico will pay GO bonds on Jan.1 but that there will be defaults on other debts.

It may not be clear until Jan.4 which payments Puerto Rico has made, due to the New Year’s holiday.

Puerto Rico officials have given clear warnings of defaults. Garcia Padilla said on Tuesday that it is “very, very unlikely” there will be no default on debt due Jan. 1 and said last week that the island had “no money”.

Melba Acosta, president of the island’s Government Development Bank (GDB) was quoted in local media saying the island is expected to default on a Jan. 1 payment on its Infrastructure Finance Authority (PRIFA) bonds.

Garcia Padilla on Dec. 1 granted the U.S. territory power to take revenues from public agencies such as the highways agency HTA, PRIFA and its convention center district authority via “clawbacks”.

The governor has been clear that he will put Puerto Rican citizens’ needs above creditors, saying last week that: “I will choose Puerto Ricans – always.”

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