Thread by @ProfSchleich

A few people have already started asking whether the dissolution of Reedy Creek violates the Contract Clause, so I figured I’d lay out the issues for people. (1/21). It's an interesting question involving a wild story!

news.bloombergtax.com/tax-insights-a…

Buckle up, as explaining requires a tour through “Big MAC" bonds, “corporate suicides” and a threat by President Ulysses S. Grant to send federal troops to Iowa in the 1870s..

Reedy Creek entered into bond contracts; the Constitution (and the Florida Constitution) limits the ability of state government to “impair” contracts. OTOH, municipalities are creations of state law and states are free to reorganize their local governments how they see fit.

There is thus a substantial question about whether and when state reorganizations of municipal governments that have issued bonds violates the Contract Clause.

The biggest question of this type involves "sales tax bonds." First used by New York’s UDC and then the city, the idea is that a higher level of government reassigns a stream of revenue that once supported a municipality’s general obligation debt to support a new bond issuance

The “Big Mac” bonds took revenues that would have gone to NYC’s budget, and reassigned them to support new "MAC" bonds. A government that cannot otherwise borrow suddenly can using these bonds, because new lenders believe they have priority access to the reassigned revenues

This same process has been used in (somewhat more abusive) ways in Puerto Rico (Confina) and Illinois

A question emerges: is reassigning the revenues from a government that has previously issued bonds an “impairment” of the contract? Courts have generally ruled that it is not, although the issue has not be definitively resolved.

Why? If a court held that a city’s bond contracts could bind a state legislature in its efforts to reassign revenues, the city could effectively lock in all of its current powers by issuing a bond! That can’t be right — cities shouldn’t be able to box states in that way.

OTOH, there is some Supreme Court doctrine from the 1880s that goes the other way.

From 1860 to 1890, the Supreme Court heard lots and lots of cases involving defaulting municipal bonds, largely a result of local governments issuing debt to support railroads that then failed. This was a huge issue, a pretty substantial plurality of SCOTUS cases in this period.

Basically, this is what Iowa looked like in the 1860s

Mostly relying on its pre-Erie Railroad v. Tompkins powers, SCOTUS ruled aggressively in favor of bondholders, forcing municipalities to raise taxes and cut services to meet their obligations. (If you lawyers out there know anything about this story, it’s Gelpcke v. Dubuque)

FWIW, these opinions were so openly policy driven that some observers argued that they were the genesis of the Court’s Lochner-era disposition

States resisted these judicial orders, and federal courts cracked down even further. At one point, resistance in Iowa was so substantial that President Grant had to threaten military action. Yeesh!

(I may have to do a follow-up @marinklevy style thread on Justice Miller, the major dissenter in these Supreme Court decisions, and a fascinating figure!)

One type of resistance at the state level was “corporate suicides." A state would create a new municipality that covered the same land as an existing municipality, reassign the power to tax to the new municipality, leaving creditors of the old municipality chasing a shell.

This happened in lots of places! Alabama did this for Mobile, creating “Port of Mobile.” The Supreme Court then ruled in Port of Mobile v. Watson that the new municipality was heir to the old municipality’s debts, ending the corporate suicide party.

The reasoning of Port of Mobile is unclear and it’s not even clear what part of the constitution they are relying on. There are a few other cases though that suggest that the Contracts Clause limits the ability of states to reassign revenues or otherwise undermine municipal bonds

This is the case against the Florida legislature in Reedy Creek — that dissolving Reedy Creek was an intentional impairment of municipal bonds and thus violates the Contract Clause.

However, Court interpretation of the Contract Clause has changed a lot since the 1880s! And the basic problem from the sales tax bond cases remains — a city should not be able to bind a state in its efforts to reorganize its municipalities.

For more on this, see papers.ssrn.com/sol3/papers.cf… and get excited for a forthcoming book project!

If there's demand, I can go into the divergence between state and municipal debt cases, the piercing of the municipal veil in Bridgeport CT, or how Justice Miller got nominated for the Court (and his role on the other side of President Lincoln's most famous case as a lawyer).

anyway, may be of interest @daskeel @JoeMysak @BondBuyerMarket @munilass @Muni_Mkt_Anlyt @WilliamBaude @StephenESachs @CSElmendorf @mattyglesias @reihan @Matt_Fabian

And of course @RickHills2 @joshchafetz and I hope many others!

Also maybe @marywalshjourno @BCAppelbaum