News Q & A: Current economic crisis could affect Metro and other transit agencies

Has the recent economic crisis had any direct effect on Metro?
AIG, an insurance and financial services company, recently had its credit rating downgraded as a result of the financial crisis. AIG provided payment guarantees for a number of agreements between Metro and banks.

AIG guaranteed that Metro would make certain payments to the banks. In fact, those payments are being made from the guaranteed funds, and there have been no missed payments.

Unfortunately, the agreements also required that AIG maintain a very high credit rating, and the downgrade of AIG"s credit status has allowed these banks to claim that Metro is technically in default on these agreements. Although, the banks are getting their payments regularly from the guaranteed funds accounts, some banks are asking that the agreements be ended and that Metro pay millions of dollars in termination fees immediately.

The best solution to this problem, which affects about 30 transit agencies across the country, would be for the Department of the Treasury to use its authority under the Emergency Economic Stabilization Act of 2008 to back or replace AIG as the guarantor of these agreements. Then, the banks could no longer claim there was a technical default. They would continue to receive their payments from the guaranteed accounts, and there would be little to no cost to the federal government.

Currently, a Belgian bank has declared a technical default and asked for $43 million in termination fees, about $25 million of which could come from Metro.

Although Metro found another company with the proper credit rating to guarantee payments, the Belgian bank refused to accept the offer.

Metro filed a request for a temporary restraining order against the Belgian bank last month. The bank has temporarily deferred collection of the termination fees until a court hearing on a preliminary injunction which is scheduled for Wednesday, November 12.

What type of agreements are we talking about?
These agreements are leases. In these agreements, Metro leased railcars to the banks. The banks would provide Metro with payment up front. Some of that money could be used by Metro to fund its capital improvement program. The rest of that money bought the guarantees from companies like AIG. Then, Metro would lease-back the railcars, and the payments to the banks came from funds in those guaranteed accounts.

This was a tax shelter for the banks. The banks were able to claim the depreciation of the railcars as a tax deduction and they received income from the lease payments coming from the guaranteed accounts.

How many lease-back agreements did Metro enter?
In the late 1990s and the early 2000s, Metro entered into 16 lease-back agreements. Metro leased out about 600 railcars, worth more than $1.6 billion, and received about $100 million up front for capital improvements.

How did Metro use the $100 million received up front for capital improvements?
The benefit to Metro was money for capital improvement, which helped pay for, among other things, more railcars and construction that allowed Metro to complete its 103-mile rail system.

Were these agreements approved by the federal government?
Yes. Each of these agreements had to be approved by the Federal Transit Administration, which also promoted the lease agreements. Another requirement of the agreements was that the payments from the trust account be guaranteed by an insurer with a high credit rating, such as AIG.

If the banks are getting their payments from the guaranteed accounts, why would they want to end the agreements?
In 2004, a law went into effect that would no longer allow tax deductions to the banks for these lease agreements. This year, the Internal Revenue Service offered a settlement to the banks who had entered into these agreements if those banks end the agreements by the end of the year.

If the banks are allowed to declare a technical default, they can take advantage of the IRS settlement offer, which allows them to keep 20% of their former tax deductions, and ask taxpayers to give them millions via termination fees paid by transit agencies like Metro. Bottom line, the out-of-pocket cash termination payment is the banks" attempt to recover their tax benefit.In short, the banks want to immediately recoup the disallowed tax credits they would have received over 20-30 years on top to the 20% tax credit the IRS is offering in the settlement.

How much would it cost to end all of these agreements and pay the termination fees?
It would cost Metro more than $400 million to pay termination fees for all 16 agreements. Metro is working with banks to receive waivers, or extensions, until another solution can be found. Two banks have agreed to end two deals at little or no cost to Metro.

The best solution would be for the Treasury Department to guarantee the payments of transit agencies, that way there is no technical default. Under the Emergency Economic Stabilization Act of 2008, the Treasury Department can either backstop or replace AIG as the guarantor of these payments. Guaranteeing the payments would carry no practical risk or cost, since the payment accounts are funded with Treasury Department securities.

What other transit agencies are in this situation?
At the same time that the Treasury Department is working to prop up large banks with taxpayer support, some of the same banks are attempting to profit on the backs of public transit agencies.

More than 30 other transit agencies have participated in this lease-back program. Examples of others include those in Atlanta, Los Angeles and Chicago.

In Los Angeles, they"ve said that this problem will force service cuts. Will this mean Metro cuts service?
Every transit agency has a different financial structure. If the Belgian bank is allowed to take advantage of taxpayers in this manner, Metro could be forced to pay $25 million to this bank. It is likely that the money would come from the FY2009 Capital budget. That would have a significant effect on infrastructure maintenance between now and July 2009.

In the future, Metro could end up paying higher interest rates and it could be more difficult for the authority to borrow money to pay for capital improvements. That means there would be less money for new trains and buses and for the maintenance of elevators and escalators.

All of this could be easily avoided if the Treasury Department uses the authority it has to back or replace AIG as the insurer of these financial transactions. This is by far the best solution, as there is no practical risk to the federal government because the payment accounts are already backed by Treasury bonds.

Additionally, the federal government has bailed out AIG. This action would protect that investment.

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