According to the New York Times, Detroit Bankruptcy Judge Steven Rhodes rejected a $165 million settlement plan in which Bank of America and UBS would pay off an interest rate swap contract that went south, claiming that the amount was too high. The judge’s ruling puts the city in a bind, since the casino revenue it had hoped to use as collateral for a loan with Barclays is tied up in the interest rate swap contract.
In 2005, Detroit entered into a swap contract with the two banks to put $1.4 billion into the pension plan. When rates fell, the deal ended up costing Detroit $36 million annually. When their debt was downgraded to junk, violating the terms of the interest rate contract, Detroit pledged casino tax revenue as collateral. Days before filing for bankruptcy, the banks offered to take $250 million as settlement. That offer was lowered to $220 million when other creditors complained.
Judge Rhodes sent the parties back to negotiate a settlement with the help of fellow bankruptcy judge Gerald Rosen, resulting in the $165 million deal. Though interest rate swap contracts are almost impossible to get out of — even in bankruptcy — many believe that not only are the contracts illegal but that Detroit may be able to claw back money.
Regardless, Judge Rhodes said that the deal was too high and that borrowed money can only be used to pay for city services. The question now is whether Barclays will loan the money without the casino revenue collateral.
