Latest Casualty of Puerto Rico Cash Grab is University System

(Bloomberg) -- The University of Puerto Rico risks becoming the next casualty in the commonwealth’s fiscal crisis as the school’s employees and creditors look to grab any available funds with the pending federal oversight of the island’s finances raising the specter of spending cuts.

Puerto Rico directs nearly $1 billion annually to the 11-campus system, accounting for about 70 percent of the school’s budget. Everyone from employees to investors are speculating that the commonwealth will need to scale back support as other expenses mount and the new federal control board seeks to put an end to the island’s more than 10-year trend of borrowing to close budget gaps.

Stakeholders aren’t wasting time. Participants in the medical school’s deferred compensation plan voted in May to liquidate the fund’s $103 million of assets -- which ultimately belong to all UPR creditors if the institution is insolvent -- after the school’s management said in April it doubts the university’s ability to continue as a going concern. U.S. Bank Trust National Association, the bond trustee for investors holding $432 million of municipal debt, sued in August because the school stopped directing about $89 million in pledged tuition and fees to repay the bonds after Governor Alejandro Garcia Padilla placed the school in a state of emergency.

While the budget for the current school year is set, it’s unclear what level of support the university will receive in the next year, said Norberto Gonzalez, UPR’s director of finance. The commonwealth could save as much as $500 million by fiscal 2020 if it reduces annual allocations to the school, according to a July 2015 report compiled by former International Monetary Fund economists led by Anne Krueger and commissioned by Puerto Rico.

“What people may speculate is what will happen after June 30, 2017, in terms of the fiscal-control board and if the university is going to receive less than it is receiving now,” Gonzalez said in an interview from San Juan. “Everyone has to be open to changes in this time of unchartered waters.”

As part of a new federal law, called Promesa, creditors are temporarily prohibited from suing the commonwealth or its entities for repayment. Puerto Rico defaulted July 1 on nearly $1 billion due to investors, the largest such payment failure in the $3.8 trillion municipal-bond market. A federal judge in San Juan is set to hear testimony on Promesa’s legal stay provision on Thursday and whether some cases, including the U.S. Bank Trust suit against the university, should be exempt. The federal government filed a statement of interest on Wednesday, urging the court to postpone granting relief from the stay until the federal control board is fully operational.

Latest Casualty of Puerto Rico Cash Grab is University System

“It’s just another casualty of the whole event,” said Matt Dalton, chief executive officer of Rye Brook, New York-based Belle Haven Investments, which oversees $5.5 billion of municipal bonds, including insured Puerto Rico debt. “Although they’ll probably get something from the government in the future, it’s probably not going to be a billion.”

Implementing spending reductions or increasing revenue through additional tuition increases may be difficult. Students this year and last year protested potential austerity measures, with the governor in 2015 reversing a plan to cut the university’s funding. In 2010, students shut down several campuses for weeks over proposed tuition increases.

UPR, which serves about 61,000 undergraduates and graduates, boosted its tuition rate by 2 percent this year to $56 per credit hour, or $840 per semester for 15 credits. The school imposed yearly tuition hikes of 2 percent since the academic year ending June 2014, after 4 percent annual boosts from 2008 through 2013.

Emergency Withdrawals

The push to liquidate the medical school’s deferred-compensation plan sparked a separate court case. Voya Institutional Trust Co., trustee for the retirement plan, is asking the U.S. District Court of Puerto Rico to determine whether the firm should allocate the fund’s $103 million of assets to plan participants after UPR decided in May to replace the firm with the school’s board of directors to serve as trustee. If the university is insolvent, then the plan’s assets belong to all of the school’s creditors and not just the participants, according to court documents. Voya is looking to avoid any potential liability in how it treats the funds.

Plan members can receive early withdrawals if the participant is experiencing financial hardship due to illness, according to court documents. After the school in April filed financial documents for the fiscal year ending June 30, 2015 -- which included management’s doubts about UPR’s ability to continue as a going concern -- participant requests for early withdrawals increased. Voya has suspended payment on about 140 requests accounting for $33 million of assets as of Aug. 22, according to court documents.

“The number of emergency withdrawal requests received in May 2016 far exceeded historical numbers of requests for emergency withdrawals from the plan,” lawyers for Voya wrote in court documents.

Voluntary Program

UPR spokeswoman Norma Borges declined to comment in an e-mail because of the Voya lawsuit. Dr. Carlos Perez Diaz, president of the school’s board of directors and pediatrician at Pediatrix Medical Group in Guaynabo, Puerto Rico, didn’t respond to e-mails and phone messages. Dr. Francisco Lopez Gonzalez, associate professor at UPR’s medical school and vice-president of the compensation plan’s board, declined to comment in an e-mail because of the suit.

Employees of UPR’s Medical Sciences Campus are able to participate in the deferred-compensation plan, which is a voluntary program that allows members to reduce their yearly taxable income by directing a portion of their salary into the plan.

“These types of plans tend to be for persons of fairly high income, and in this case it was designed for the doctors,” Gonzalez said. “It’s not the type of plan suitable for low-level employees at the university that would make $25,000 or $30,000.”

UPR has a larger pension plan that covers employees throughout the higher-educational system’s campuses. The retirement program had a net liability of $2.1 billion after accounting for $1.3 billion of assets, as of June 2015, according to the school’s latest financial documents for the year ending June 30, 2015.

Net Liabilities

The financial crisis is already affecting bondholders. The school in June stopped directing dedicated tuition revenue and fees to U.S. Bank Trust following the governor’s executive order on June 30 to suspend payments. A reserve fund for the bonds totals about $55 million, which could cover $10.8 million of interest due Dec. 1 and $31.8 million of principal and interest due June 1, 2017, according to court documents.

UPR’s debt-service costs for the current fiscal year are a small portion of the school’s $1.4 billion budget. While UPR’s original spending plan included payments to bondholders, the governor’s executive order changed that, Gonzalez said.

“I’m not saying the university is not able to pay its bonds,” Gonzalez said. “The university is not paying the bonds because it is following the executive order.”

U.S. Bank Trust is seeking an injunction against diverting the nearly $89 million in pledged tuition and fees. The trustee argues that redirecting the funds violates the Promesa law.