Commonwealth v. Franklin Cal. Tax-Free Trust

• Decision Date: 13 June 2016
• Docket Number: Nos. 15–233,15–255.,s. 15–233
• Parties: Commonwealth Of PUERTO RICO, et al., Petitioners v. FRANKLIN CALIFORNIA TAX–FREE TRUST, et al.
• Court: U.S. Supreme Court

136 S.Ct. 1938

195 L.Ed.2d 298

Commonwealth Of PUERTO RICO, et al., Petitioners

v.FRANKLIN CALIFORNIA TAX–FREE TRUST, et al.

Nos. 15–233

15–255.

Supreme Court of the United States

Argued March 22, 2016.

Decided June 13, 2016.

Christopher Landau, Washington, DC, for the petitioners.

Matthew D. McGill, Washington, DC, for the respondents.

John E. Roberts, Andrea G. Miller, Laura Stafford, Proskauer Rose LLP, Boston, MA, José R. Coleman–Tió, Alejandro Febres Jorge, Luis J. López Valdés, Santurce, PR, Martin J. Bienenstock, Mark D. Harris, Sigal Mandelker, Philip M. Abelson, Ehud Barak, Proskauer Rose LLP, New York, NY, for Petitioners.

César Miranda Rodríguez, Secretary of Justice, Margarita Mercado Echegaray, Solicitor General, Department of Justice, San Juan, PR, Christopher Landau, P.C., Susan M. Davies, Claire McCusker Murray, Kirkland & Ellis LLP, Washington, DC, for Petitioners.

Thomas Moers Mayer, Philip Bentley, Amy Caton, David E. Blabey, Jr., Kramer Levin Naftalis & Frankel LLP, for Respondents.

David C. Indiano, Jeffrey M. Williams, Leticia Casalduc–Rabell, Indiano & Williams, PSC, San Juan, PR, Matthew J. Williams, Gibson, Dunn & Crutcher LLP, New York, NY, Theodore B. Olson, Matthew D. McGill, Jonathan C. Bond, Lindsay S. See, Russell B. Balikian, Gibson, Dunn & Crutcher LLP, Washington, DC, for Respondent.

Justice THOMASdelivered the opinion of the Court.

The Federal Bankruptcy Code pre-empts state bankruptcy laws that enable insolvent municipalities to restructure their debts over the objections of creditors and instead requires municipalities to restructure such debts under Chapter 9 of the Code. 11 U.S.C. § 903(1). We must decide whether Puerto Rico is a "State" for purposes of this pre-emption provision. We hold that it is.

The Bankruptcy Code has long included Puerto Rico as a "State," but in 1984 Congress amended the definition of "State" to exclude Puerto Rico "for the purpose of defining who may be a debtor under chapter 9." Bankruptcy Amendments and Federal Judgeship Act, § 421(j)(6), 98 Stat. 368, now codified at 11 U.S.C. § 101(52). Puerto Rico interprets this amended definition to mean that Chapter 9 no longer applies to it, so it is no longer a "State" for purposes of Chapter 9's pre-emption provision. We hold that Congress' exclusion of Puerto Rico from the definition of a "State" in the amended definition does not sweep so broadly. By excluding Puerto Rico "for the purpose of defining who may be a debtor under chapter 9, " § 101(52)(emphasis added), the Code prevents Puerto Rico from authorizing its municipalities to seek Chapter 9 relief. Without that authorization, Puerto Rico's municipalities cannot qualify as Chapter 9 debtors. § 109(c)(2). But Puerto Rico remains a "State" for other purposes related to Chapter 9, including that chapter's pre-emption provision. That provision bars Puerto Rico from enacting its own municipal bankruptcy scheme to restructure the debt of its insolvent public utilities companies.

I

A

Puerto Rico and its instrumentalities are in the midst of a fiscal crisis. More than $20 billion of Puerto Rico's climbing debt is shared by three government-owned public utilities companies: the Puerto Rico Electric Power Authority, the Puerto Rico Aqueduct and Sewer Authority, and the Puerto Rico Highways and Transportation Authority. For the fiscal year ending in 2013, the three public utilities operated with a combined deficit of $800 million. The Government Development Bank for Puerto Rico (Bank)—the Commonwealth's government-owned bank and fiscal agent—has previously provided financing to enable the utilities to continue operating without defaulting on their debt obligations. But the Bank now faces a fiscal crisis of its own. As of fiscal year 2013, it had loaned nearly half of its assets to Puerto Rico and its public utilities. Puerto Rico's access to capital markets has also been severely compromised since ratings agencies downgraded Puerto Rican bonds, including the utilities', to noninvestment grade in 2014.

Puerto Rico responded to the fiscal crisis by enacting the Puerto Rico Corporation Debt Enforcement and Recovery Act (Recovery Act) in 2014, which enables the Commonwealth's public utilities to implement a recovery or restructuring plan for their debt. 2014 Laws P.R. p. 371. See generally McGowen, Puerto Rico Adopts A Debt Recovery Act For Its Public Corporations, 10 Pratt's J. Bkrtcy. Law 453 (2014). Chapter 2 of the Recovery Act creates a "consensual" debt modification procedure that permits the public utilities to propose changes to the terms of the outstanding debt instruments, for example, changing the interest rate or the maturity date of the debt. 2014 Laws P. R., at 428–429. In conjunction with the debt modification, the public utility must also propose a Bank-approved recovery plan to bring it back to financial self-sufficiency. Ibid. The debt modification binds all creditors so long as those holding at least 50% of affected debt participate in (or consent to) a vote regarding the modifications, and the participating creditors holding at least 75% of affected debt approve the modifications. Id., at 430. Chapter 3 of the Recovery Act, on the other hand, mirrors Chapters 9 and 11 of the Federal Bankruptcy Code by creating a court-supervised restructuring process intended to offer the best solution for the broadest group of creditors. See id., at 448–449. Creditors holding two-thirds of an affected class of debt must participate in the vote to approve the restructuring plan, and half of those participants must agree to the plan. Id., at 449.

B

A group of investment funds, including the Franklin California Tax–Free Trust, and BlueMountain Capital Management, LLC, brought separate suits against Puerto Rico and various government officials, including agents of the Bank, to enjoin the enforcement of the Recovery Act. Collectively, the plaintiffs hold nearly $2 billion in bonds issued by the Electric Power Authority, one of the distressed utilities. The complaints alleged, among other claims, that the Federal Bankruptcy Code prohibited Puerto Rico from implementing its own municipal bankruptcy scheme.

The District Court consolidated the suits and ruled in the plaintiffs' favor on their pre-emption claim. 85 F.Supp.3d 577 (P R 2015). The court concluded that the pre-emption provision in Chapter 9 of the Federal Bankruptcy Code, 11 U.S.C. § 903(1), precluded Puerto Rico from implementing the Recovery Act and enjoined its enforcement. 85 F.Supp.3d, at 601, 614.

The First Circuit affirmed. 805 F.3d 322 (2015). The court examined the 1984 amendment to the definition of "State" in the Federal Bankruptcy Code, which includes Puerto Rico as a "State" for purposes of the Code " 'except for the purpose of defining who may be a debtor under chapter 9.' " Id., at 330–331(quoting § 101(52); emphasis added). The court concluded that the amendment did not remove Puerto Rico from the scope of the pre-emption provision and held that the pre-emption provision barred the Recovery Act. Id., at 336–337. The court opined that it was up to Congress, not Puerto Rico, to decide when the government-owned companies could seek bankruptcy relief. Id., at 345.

We granted the Commonwealth's petitions for writs of certiorari. 577 U.S. ––––, 136 S.Ct. 582, 193 L.Ed.2d 465 (2015).^*

II

These cases require us to parse three provisions of the Bankruptcy Code: the "who may be a debtor" provision requiring States to authorize municipalities to seek Chapter 9 relief, § 109(c), the pre-emption provision barring States from enacting their own municipal bankruptcy schemes, § 903(1), and the definition of "State," § 101(52). We first explain the text and history of these provisions. We then conclude that Puerto Rico is still a "State" for purposes of the pre-emption provision and hold that this provision pre-empts the Recovery Act.

A

The Constitution empowers Congress to establish "uniform Laws on the subject of Bankruptcies throughout the United States." Art. I, § 8, cl. 4. Congress first exercised that power by enacting a series of temporary bankruptcy Acts beginning in 1800, which gave way to a permanent federal bankruptcy scheme in 1898. See An Act To Establish a Uniform System of Bankruptcy Throughout the United States, 30 Stat. 544; Hanover Nat. Bank v. Moyses, 186 U.S. 181, 184, 22 S.Ct. 857, 46 L.Ed. 1113 (1902). But Congress did not enter the field of municipal bankruptcy until 1933 when it enacted the precursor to Chapter 9, a chapter of the Code enabling an insolvent "municipality," meaning a "political subdivision or public agency or instrumentality of a State," 11 U.S.C. § 101(40), to restructure municipal debts. See McConnell & Picker, When Cities Go Broke: A Conceptual Introduction to Municipal Bankruptcy, 60 U. Chi. L.Rev. 425, 427, 450–451 (1993).

Congress has tailored the federal municipal bankruptcy laws to preserve the States' reserved powers over their municipalities. This Court struck down Congress' first attempt to enable the States' political subdivisions to file for federal bankruptcy relief after concluding that it infringed the States' powers "to manage their own affairs." Ashton v. Cameron County Water Improvement Dist. No. One, 298 U.S. 513, 531, 56 S.Ct. 892, 80 L.Ed. 1309 (1936). Congress tried anew in 1937, and the Court upheld the amended statute as an appropriate balance of federal and state power. See United States v. Bekins, 304 U.S. 27, 49–53, 58 S.Ct. 811, 82 L.Ed. 1137 (1938). Critical to the Court's constitutional analysis was that the State had first authorized its instrumentality to seek relief under the federal bankruptcy laws. See id., at 47–49, 53–54, 58 S.Ct. 811.

Still today, the provision of the Bankruptcy Code defining who may be a debtor under Chapter 9, which we refer to here as the "gateway" provision, requires the States to authorize their municipalities to seek relief under Chapter 9 before the municipalities may file a Chapter 9 petition:

"§ 109. Who may be a

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