■Payment of fees to the trustee, escrow agent,
accountant or issuer may be made from the
escrow only if they are provided for in the cash
flow statement and the escrow deposit agreement.
Defeasing variable rate debt presents a unique sit-
uation as the interest rate on the bonds in escrow
continues to reset, and the bondholders’ put option
may not be extinguished when the indenture is dis-
charged. For additional criteria related to legally
defeased variable rate debt, see the “Defeasance”
section of “Public Finance Criteria: LOC-Backed
Municipal Debt”.
Finally, Standard & Poor’s should be notified of
any substantive changes in the structure of the
transaction including, among other things, entering
into a forward purchase contract or changing the
definition of eligible securities.
Cash flow verification
A report provided by a third-party accounting firm
that verifies the accuracy, adequacy, and timeliness
of the funds escrowed to pay bondholders is
reviewed. The report should verify that the antici-
pated receipts from escrow securities would be suf-
ficient to pay principal and interest when due.
Legal opinions
Standard & Poor’s may look for legal comfort on
certain issues:
■For public-purpose and Bankruptcy Code issuers,
a legal defeasance opinion that indicates that the
lien of the prior indenture or resolution has been
discharged and released.
■If cash contributions, rather than bond proceeds,
fund all or part of the escrow an opinion indicat-
ing that, in the event of an insolvency of the con-
tributor, the escrow fund and any payments on
the defeased bonds would not be recoverable as a
preference pursuant to Section 547(b) of the
Bankruptcy Code.
■A bankruptcy opinion if excess earnings or resid-
uals are allowed to be removed from the escrow
prior to maturity or earlier call date(s) and the
entity may be involved in substitution and rein-
vestment procedures.
Standard & Poor’s does not require legal defea-
sance or preference opinions in connection with the
defeasance of bonds issued by entities deemed
municipalities (states, counties, or cities) that are
eligible to file a bankruptcy petition under Chapter
9 of the Bankruptcy Code.Economic Defeasance Criteria
Standard & Poor’s reviews the following documenta-
tion to analyze economically defeased transactions:■Escrow deposit agreement: The criteria are identi-
cal to those listed above under legal defeasance.
■Cash flow verification: The criteria are identical
to those listed above under legal defeasance.
■Legal opinions: Issuers typically fall into one of
four categories—-municipal, conduit, bankruptcy
code, and public-purpose issuers. The legal opin-
ions necessary to analyze an economically
defeased issue are outlined below for each type of
issuer and allow Standard & Poor’s to assess the
likelihood that an issuer will file or would be
involuntarily filed under the Bankruptcy Code.
Municipal issuers
For those issuers whose status as a “municipality”
under Chapter 9 of the Bankruptcy Code is uncer-
tain, an opinion is requested to verify whether the
issuer is a municipality eligible to file under
Chapter 9 of the Bankruptcy Code.
Conduits
Conduits typically are municipally sponsored
organizations, such as housing, health care, or eco-
nomic development authorities. Standard & Poor’s
has determined that conduits have little incentive to
file for bankruptcy protection. In cases where a
legal defeasance opinion cannot be provided, but a
rating of ‘AAA’ is desired, a bankruptcy opinion is
requested to address cases where a non-bankruptcy-
remote third party deposits funds through a conduit
to defease bonds.
Bankruptcy Code issuers (Chapter 7 or 11)
Standard & Poor’s will look for legal comfort that
in an insolvency of the depositor, the escrow funds
and any payments on the defeased bonds would not
be recoverable as a preference under Section 547(b)
of the Bankruptcy Code; will not be subject to
automatic stay under Section 362(a) of the
Bankruptcy Code; and would not be considered
part of the estate of the depositor under Section
541 of the Bankruptcy Code in order for the defea-
sance rating to be higher than the existing rating on
the obligor’s long-term debt.
Public-purpose issuers
Public-purpose issuers are entities that are not con-
sidered municipalities and are not “monied, business,
or commercial corporations” under Section 303(a) of
the Bankruptcy Code. These include private colleges
and universities, hospitals, not-for-profit corpora-
tions, or other charitable institutions. Although these
entities are not subject to involuntary filing under the
Bankruptcy Code, Standard & Poor’s believes that
the possibility of a voluntary filing exists. Therefore,
the highest rating that can be assigned to the eco-
nomically defeased debt of these type of issuers is theCross Sector Criteria58 Standard & Poor’s Public Finance Criteria 2007