Rtc's Right to Repudiate Letters of Credit
| Publication year | 1992 |
| Pages | 2415 |
| Citation | Vol. 11 No. 1992 Pg. 2415 |
1992, November, Pg. 2415. RTC's Right to Repudiate Letters of Credit
The Resolution Trust Corporation's ("RTC") current policy is that under the Financial Institutions Reform, Recovery, and Enforcement Act of 1989 ("FIRREA"),(fn1) it may repudiate standby letters of credit if the RTC is appointed as a conservator or receiver for a financial institution. Attorneys structuring transactions backed up by letters of credit or involved with completed transactions in which letters of credit were issued should beware. The mere possibility that the RTC may take over the thrift that issued the letter of credit may cause the beneficiary of the letter of credit to call it, thereby causing a real estate project to go into default.
In other situations, the value of the tax-exempt bonds issued by public agencies has been significantly reduced by the RTC's policy that if it takes over a thrift, it will not honor letters of credit issued by the thrift. This is the area in which the RTC's policy has caused the most problems.
This article discusses how letters of credit issued by a financial institution are treated when the institution itself fails, both pre- and post-FIRREA.
In the 1980s, many savings and loan associations ("S&L") were involved in credit enhancement programs which were structured substantially as follows: The S&L would issue letters of credit to enhance the investment ratings of tax-exempt bonds, which had been issued by a governmental entity. The proceeds of these bonds were loaned to developers to construct or rehabilitate multi-family residential real estate projects to be occupied wholly or partially by persons of low and moderate income. In some cases, the proceeds were used to construct commercial projects.
The S&L issued irrevocable letters of credit guaranteeing timely payment on the bonds. In exchange for the S&L issuing such letters of credit, the project developer agreed to reimburse the S&L for all payments made under the letter of credit. In most instances, the developer paid interest to or for the benefit of the bondholders and paid certain fees to the S&L. The S&L held a first mortgage on the properties to secure its letter of credit. Often, the S&L had personal guaranties from the developer and other collateral.
The properties involved in such credit enhancement programs had transferable, tax-exempt, below-market financing. The favorable financing was made possible by the governmental entity that issued the bonds.(fn2) These types of transactions are adversely affected by the RTC's position that it may reject letters of credit.
The Federal Deposit Insurance Corporation ("FDIC") has long maintained that if it is appointed as a receiver for a failed bank, it may repudiate existing standby letters of credit. It has maintained that such a repudiation would not be a breach of the letter of credit. It has contended that a claim for breach of a letter of credit could not be made unless the issuing institution failed to pay on a letter of credit prior to the...
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