DC Metro Seeks Restraining Order to Avoid Defaulting on Friday

October 30, 2008

From the Associated Press:

The Washington area’s transit agency is seeking a temporary injunction against a Belgian bank [KBG Group] that is demanding a $43 million payment by Friday.[…]

Metro warns that if a U.S. District Court judge refuses to grant the request made Wednesday, the transit system could find itself in default by Friday. KBC declined comment.

Our blog post last week, “Transit Agencies in Bind Due to SILO Deals, AIG Collapse” provides background on the situation:

When a private company builds an asset, they are permitted under federal income tax law to deduct from their taxes the depreciation (wearing out) of the asset over time, reducing their overall tax bill. Cities and transit agencies also build and own assets, but because they are governmental instrumentalities, they are exempt from federal income taxes. Given that they don’t pay taxes, these reductions in taxes owed are worthless to them.

Enter the SILO (sale in, lease out) transaction. Beginning in the 1980s, cities started these deals, whereby they sell (actually a long-term lease, but it’s a sale for tax purposes) a city-owned asset to a private investor. The private investor can thus use the depreciation deductions to reduce his or her taxes over time. Not needing the asset, the investor leases it back to the city, and the city promises to make annual lease payments. The city takes part of the purchase price it received to make these payments for the life of the lease, and a surplus is usually left over that can be used for other projects or needs.[…]

Although the IRS and Congress moved at various times to shut down these deals, they flowered especially for transit agencies from the mid-1990s onward. Each agreement had to approved by the Federal Transit Administration, and transit agencies say that federal transit officials encouraged the deals. For budget purposes, the lost revenue to the Treasury (estimated to be $4.4 billion in 2003, when the Treasury Department ruled that depreciation deductions from such deals would be denied) would be considered a tax reduction, not an appropriation. Some 30 agencies made such deals that remain outstanding.

Because Treasury has now made these deals worthless for the banks, they were pretty much looking for any opportunity to get out of the contracts. That opportunity came when American Insurance Group (AIG), an insurer that had guaranteed many of the deals, had its credit rating lowered as a result of nearing bankruptcy and then being bailed out by the U.S. government. The lowering of the guarantor’s credit rating triggered a clause in the agreements that placed them in technical default, requiring the agencies either to find a new guarantor or pay termination fees to cancel the agreements.

Read the rest here.

(Hat tip to Elizabeth A. Terrell for the update story.)

UPDATE: According to CQ Politics, the Treasury Department sounds less than receptive to involvement:

[D.C. Delegate Eleanor Holmes] Norton said aides to House Speaker Nancy Pelosi , D-Calif., went to the Treasury this week to lobby on transit’s behalf. According to Norton, the Treasury’s response was, “What does this have to do with the federal government?”

Beverly A. Scott, chairwoman of the American Public Transportation Association, said agencies are receiving demands from banks “tantamount to ransom notes.”

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