Supreme Court bars Puerto Rico from adopting its own bankruptcy measures

The Supreme Court ruled Monday that Puerto Rico cannot adopt its own legislation to restructure its crushing debt burden because of a 1984 federal bankruptcy provision that bars the commonwealth from using Chapter 9 of the bankruptcy law.

The 5-to-2 majority decision, written by Justice Clarence Thomas, is a blow to the Puerto Rican government and supports arguments by major holders of bonds issued by Puerto Rico’s government, agencies and utilities. Justice Sonia Sotomayor dissented and was joined by Justice Ruth Bader Ginsburg.

“The plain text of the Bankruptcy Code begins and ends our analysis,” Thomas wrote, adding that the “unambiguous language” of the bankruptcy measure preempts any effort by Puerto Rico to fashion its own bankruptcy process.

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The decision leaves any rescue plan for Puerto Rico in the hands of Congress. The House and the Treasury Department have been debating ways to help the territory, which faces certain default on a portion of about $2 billion in payments due July 1. The default, one of many in recent months, would hit general obligation bonds, considered the safest kind of bond.

The House passed a rescue bill last week that would create an appointed federal oversight board empowered to overrule local officials on spending plans and force debt restructuring on recalcitrant bondholders. But that would happen only after a number of tests to protect and satisfy creditors.

In the case before the Supreme Court, the government of Puerto Rico, through what is known as the Recovery Act, had sought to adopt its own version of bankruptcy that would help its municipalities, agencies and utilities restructure more than $20 billion of their debts and force creditors to accept haircuts, or reductions in their payments.

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The source of much of the confusion about who is empowered to do what stems from a 1984 vote by Congress to alter the treatment of Puerto Rico (as well as the District of Columbia) and prevent it, its agencies or its municipalities from using Chapter 9 of the bankruptcy code to restructure debts that cannot be repaid. Congress never debated the change and appears to have left no written record of its intent.

Municipalities and agencies in all U.S. states have the ability to use Chapter 9, as the city of Detroit did. And while Thomas wrote that Puerto Rico should be considered a state, the 1984 legislation singled out the island and excluded it from Chapter 9 use.

Left adrift and struggling to renegotiate with the holders of bonds issued by 18 government entities, Puerto Rico passed its own law last year to restructure some of its $72 billion of debt. But a federal appeals court struck that down, saying that the legislation conflicted with federal bankruptcy law — even though Puerto Rico does not have access to bankruptcy the way other state and local governments do.

In its appeal to the Supreme Court, commonwealth officials argued that the appeals court’s decision left the island in a legal “no man’s land” without access “to any legal mechanism to restructure” its utilities’ debt.

Leading Puerto Rican politicians denounced the Supreme Court decision. Former Puerto Rican governor Luis G. Fortuño, now a partner at the law firm Steptoe & Johnson, said it “confirm[s] that the island’s current territorial status has evolved into the worst of both worlds.”

During arguments, liberals on the Supreme Court — including Sotomayor, the daughter of Puerto Rican parents — were moved by the island’s plight and puzzled by the 1984 congressional law’s language.

Sotomayor wrote in her dissent that “because Puerto Rican municipalities cannot access Chapter 9’s federal bankruptcy process . . . a nonfederal bankruptcy solution is not merely a parallel option; it is the only existing legal option for Puerto Rico to restructure debts that could cripple its citizens.”

But bondholders from Franklin Templeton, Blue Mountain Capital Management and other investment funds argued that the federal bankruptcy statute preempts the commonwealth’s own legislation and explicitly bars Puerto Rico from using Chapter 9. Those firms hold nearly $2 billion in bonds issued by the Puerto Rico Electric Power Authority.

Thomas agreed, writing in his opinion that “our constitutional structure does not permit this Court to ‘rewrite the statute that Congress has enacted.’ ”

Justice Samuel A. Alito Jr. recused himself from the case, most likely because he owns Puerto Rican bonds, popular tax-exempt investments.

In a second case, the court increased the chances for larger damage awards when a company intentionally copies another’s patent.

In a unanimous decision written by Chief Justice John G. Roberts Jr., the court said the U.S. Court of Appeals for the Federal Circuit had adopted a test for awarding triple damages that was too rigid and did not give enough leeway to district judges overseeing the litigation.

Roberts said the test, which requires a finding of “objective recklessness” by the infringer, was too strict. “It can have the effect of insulating some of the worst patent infringers from any liability for enhanced damages.”

The decision sends two cases back to the lower courts: Halo Electronics had sued Pulse Electronics for alleged infringement, and Stryker Corp. had sued Zimmer Inc. over alleged infringement of a device used to clean tissue during surgery.

Robert Barnes contributed to this report.