United States Court of Appeals For the First Circuit

No. 22-1829

IN RE: THE FINANCIAL OVERSIGHT AND MANAGEMENT BOARD FOR PUERTO RICO, AS REPRESENTATIVE FOR THE COMMONWEALTH OF PUERTO RICO; THE FINANCIAL OVERSIGHT AND MANAGEMENT BOARD FOR PUERTO RICO, AS REPRESENTATIVE FOR THE PUERTO RICO SALES TAX FINANCING CORPORATION, a/k/a Cofina; THE FINANCIAL OVERSIGHT AND MANAGEMENT BOARD FOR PUERTO RICO, AS REPRESENTATIVE FOR THE EMPLOYEES RETIREMENT SYSTEM OF THE GOVERNMENT OF THE COMMONWEALTH OF PUERTO RICO; THE FINANCIAL OVERSIGHT AND MANAGEMENT BOARD FOR PUERTO RICO, AS REPRESENTATIVE FOR THE PUERTO RICO HIGHWAYS AND TRANSPORTATION AUTHORITY; THE FINANCIAL OVERSIGHT AND MANAGEMENT BOARD FOR PUERTO RICO, AS REPRESENTATIVE FOR THE PUERTO RICO ELECTRIC POWER AUTHORITY (PREPA); THE FINANCIAL OVERSIGHT AND MANAGEMENT BOARD FOR PUERTO RICO, AS REPRESENTATIVE OF THE PUERTO RICO PUBLIC BUILDINGS AUTHORITY,

Debtors,

THE FINANCIAL OVERSIGHT AND MANAGEMENT BOARD FOR PUERTO RICO, AS REPRESENTATIVE FOR THE PUERTO RICO HIGHWAYS AND TRANSPORTATION AUTHORITY,

Debtor, Appellee,

v.

THE VÁZQUEZ-VELÁZQUEZ GROUP,

Objector, Appellant,

FRANKLIN ADVISERS, INC.; NUVEEN ASSET MANAGEMENT; HON PEDRO R. PIERLUISI URRUTIA; PUERTO RICO FISCAL AGENCY AND FINANCIAL ADVISORY AUTHORITY,

Objectors, Appellees,

MAPFRE PRAICO INSURANCE COMPANY; FINCA MATILDE, INC.,

Objectors/Claimants, Appellees, ASSURED GUARANTY CORP.; ASSURED GUARANTY MUNICIPAL CORP.; NATIONAL PUBLIC FINANCE GUARANTEE CORP.; OFFICIAL COMMITTEE OF UNSECURED CREDITORS; FINANCIAL GUARANTY INSURANCE COMPANY; AMBAC ASSURANCE CORPORATION; AMERINATIONAL COMMUNITY SERVICES, LLC, as servicer for the GDB Debt Recovery Authority; CANTOR-KATZ COLLATERAL MONITOR LLC, as Collateral Monitor for the GDB Debt Recovery Authority,

Creditors, Appellees.

APPEAL FROM THE UNITED STATES DISTRICT COURT FOR THE DISTRICT OF PUERTO RICO

[Hon. Laura Taylor Swain,* U.S. District Judge]

Before

Kayatta, Lynch, and Thompson, Circuit Judges.

John E. Mudd and Law Offices of John E. Mudd on brief for appellant. Timothy W. Mungovan, John E. Roberts, Adam Deming, Martin J. Bienenstock, Mark D. Harris, Brian S. Rosen, and Proskauer Rose LLP on brief for debtor-appellee the Financial Oversight and Management Board for Puerto Rico, as representative for the Puerto Rico Highways and Transportation Authority.

July 12, 2023

* Of the Southern District of New York, sitting by designation. LYNCH, Circuit Judge. The Vázquez-Velázquez Group

appeals the Title III court's determination, in the course of its

confirmation of the Modified Fifth Amended Title III Plan of

Adjustment ("Plan") for the Puerto Rico Highways and

Transportation Authority ("PRHTA"), that the Group's claims for

additional compensation made in a separate federal lawsuit are

dischargeable. See In re Fin. Oversight and Mgmt. Bd. for P.R.,

, at *22 n.14 (D.P.R. Oct. 12, 2022) (Title III

court decision); Vázquez-Velázquez v. P.R. Highway & Transp.

Auth.,

(D.P.R. Aug. 9, 2021) (separate lawsuit).

The Group argues its members' claims in the underlying lawsuit are

not dischargeable under Sections 7, 204(d), and 304(h) of the

Puerto Rico Oversight, Management, and Economic Stability Act

("PROMESA"), which concern Puerto Rico's compliance with or

implementation of federal laws and obligations. See

, 2144(d), 2164(h).

We affirm the Title III court's determination.

I.

The Group is composed of sixty-nine current and former

PRHTA employees who received extra compensation in addition to

their salaries for their service as project administrators or

project supervisors and their spouses and conjugal partners. They

received extra compensation under PRHTA Regulation 02-017, adopted

in 2011, until the PRHTA announced its noncompliance with the

- 3 - regulation in Informative Bulletin 2015-007 dated October 2, 2014.

See Vázquez-Velázquez,

, at *4. The PRHTA broke

with Regulation 02-017 both retroactively as to such services

rendered but not yet paid from July 1-October 1, 2014, and

prospectively.

The PRHTA stated that it was required to no

longer give effect to Regulation 02-017 by P.R. Act No. 66-2014,

the "Government of the Commonwealth of Puerto Rico Special Fiscal

and Operational Sustainability Act," which the Puerto Rico

Legislature enacted in June 2014.1

At issue here is only the Group's objection to the

PRHTA's Modified Fifth Amended Title III Plan of Adjustment,

specifically to the Title III court's determination that the

Group's claims for additional compensation are dischargeable under

the Plan. Before describing the Group's specific challenge to the

Plan, we provide relevant context. In 2016, Congress enacted

1 The Group sued the PRHTA in federal district court, alleging that the decision to not comply with Regulation 02-017 was not required by P.R. Act No. 66-2014. It reasoned from that that the PRHTA violated the Group's rights "of procedural due process and substantive due process under the Fourteenth Amendment Due Process Clause," "under the Takings Clause of the Fifth Amendment, Equal Protection Clause of the Fourteenth Amendment, and the Contract Clause in Article 1, Section 10, Clause 1 of the Constitution of the United States," and under Puerto Rico law. Vázquez-Velázquez,

, at *1. The district court dismissed the Group's federal constitutional claims and declined to exercise supplemental jurisdiction over its claims under Puerto Rico law. Id. at *15. Certain of those federal constitutional and state law claims are now before this court in a separate appeal. See Vázquez-Velázquez v. P.R. Highway & Transp. Auth., No. 21-1739 (1st Cir. filed Nov. 3, 2022).

- 4 - PROMESA to address the Commonwealth of Puerto Rico's financial

crisis. See

. PROMESA established the

Financial Oversight and Management Board for Puerto Rico ("FOMB")

to "achieve fiscal responsibility and access to the capital

markets."

§ 2121(a). Title III of PROMESA authorizes the

FOMB to commence debt restructuring on behalf of the Commonwealth

and its covered instrumentalities, like the PRHTA. Id. § 2164(a).

In May 2017, the FOMB commenced a Title III case on

behalf of the PRHTA. After several years of negotiations, the

FOMB and stakeholders reached a comprehensive agreement for a Plan

of Adjustment to restructure PRHTA debt. The Group objected to

the Plan on the basis that it improperly treated its members'

claims in the underlying suit as general unsecured (i.e.,

dischargeable) claims. The Group argued that its members' claims

were nondischargeable under sections 7, 204(d), and 304(h) of

PROMESA. See

, 2144(d), 2164(h). The Group

"maintain[ed] that, because their work and compensation was

indispensable to [PR]HTA's compliance with certain federal health

and safety regulations, these sections bar the discharge of claims

related to their compensation." In re Fin. Oversight and Mgmt.

Bd. for P.R.,

, at *22 n.14.

On October 12, 2022, the Title III court entered an order

and judgment confirming the Plan, In re Fin. Oversight and Mgmt.

Bd. for P.R.,

(D.P.R. 2022), and issued its findings

- 5 - of fact and conclusions of law in connection with its confirmation

of the Plan of Adjustment, In re Fin. Oversight and Mgmt. Bd. for

P.R.,

. The Title III court found that the Plan

represented "a further step in the effort to achieve fiscal

responsibility of the Commonwealth of Puerto Rico and its

instrumentalities." Id. at *2. And without the Plan, the "[PR]HTA

would face great uncertainty, financial instability, and

significant lawsuits." Id. at *28. In footnote 14, the Title III

court also rejected the Group's contention that its members' claims

were nondischargeable. The Title III court reasoned that, assuming

that sections 7, 204(d), or 304(h) of PROMESA "could serve as a

vehicle for an exception to discharge, the nature of the . . .

Group's claim[s] do[] not fall with the scope of the purported

exceptions." Id. at *22 n.14. The Title III court emphasized

that the Group's claims "do[] not fall squarely within the language

of sections 7, 204(d), or 304(h) of PROMESA"; that the compensation

"was not required under any federal law, regulation, or program";

and that while the "[PR]HTA's ongoing compliance with federal laws

and regulations is no doubt implemented through the diligent work

of its employees, . . . the purported exceptions cannot be credibly

construed so broadly as to require that all compensation related

to such work is exempt from discharge." Id. Such a construction

of PROMESA's exceptions, the Title III court warned, "would

- 6 - severely undermine the ability of Puerto Rico to restructure and

discharge its debts and achieve fiscal responsibility." Id.

II.

We review a Title III court's legal conclusions de novo

and factual findings for clear error. See In re Fin. Oversight &

Mgmt. Bd.,

, 39 (1st Cir. 2022). The Title III court

committed neither error of law nor error of fact.

The Group argues on appeal that its members' claims are

nondischargeable based on sections 7, 204(d), or 304(h) of PROMESA

because "the work and compensation that was given to their group

was indispensable for the compliance with safety as required by

federal regulations." See

, 635.105, 635.108.

We bear in mind that the Bankruptcy Code's "fresh start" policy

instructs that "the '[e]xceptions to discharge are narrowly

construed.'" Dewitt v. Stewart (In re Stewart),

(1st Cir. 2020) (alteration in original) (quoting Palmacci v.

Umpierrez,

(1st Cir. 1997)); see also Warchol v.

Barry (In re Barry),

(B.A.P. 1st Cir. 2011)

("Given the serious nature of a discharge denial, the reasons for

denying a discharge must be real and substantial, not merely

technical and conjectural." (quoting Annino, Draper & Moore, P.C.

v. Lang (In re Lang),

(Bankr. D. Mass. 2000))).

Even were we to assume, favorably to the Group, that the

underlying claims are valid federal constitutional claims and that

- 7 - sections 7, 204(d), and 304(h) of PROMESA create an exception to

discharge as the Group argues, the Group's claims would nonetheless

fall outside the scope of those provisions.

Even taking the assumptions arguendo in favor of the

Group's claims, the claims for additional compensation still are

not exempt from discharge. The claims in the underlying suit are

not based on any federal requirements or obligations, but only on

PRHTA Regulation 02-017, which does not implement a federal health

or safety program. The federal regulations that the Group does

invoke are of no help because none include an obligation to pay

the Group additional compensation. See

,

635.105, 635.108. Further, as the Title III court noted, "there

has been no suggestion that, by discharging the . . . Group's

claim[s], [PR]HTA will be discharging or [forgoing] any of its

current or future responsibilities under federal law." In re Fin.

Oversight and Mgmt. Bd. for P.R.,

, at *22 n.14.

We cannot read these sections of PROMESA to sweep so broadly as

the Group suggests. Such a reading would ultimately undermine

Puerto Rico's ability to restructure and discharge its debts and

achieve fiscal responsibility.

For the foregoing reasons, we affirm the Title III

court's order.

- 8 -