May 7, 2008 / 3:59 PM / 11 years ago

UPDATE 2-Puerto Rico sticks with UBS though bank quits munis

(Adds details, paragraphs 10-16)

By Joan Gralla

NEW YORK, May 7 (Reuters) - Puerto Rico will stick with UBS AG UBSN.VX to underwrite a couple of big bond sales in June despite the Swiss bank’s decision to sell or shut its municipal shop, the president of the Government Development Bank said Wednesday.

“They’ve put their muni business on the block. They still continue to function,” Jorge Irizarry-Herrans, the bank president, told Reuters in an interview.

He noted that Puerto Rico, one of the nation’s biggest municipal bond issuers, could tap many other top Wall Street banks if needed for a $200 million auction rate restructuring and a $1 billion sale of local pension bonds.

UBS was the third biggest underwriter of muni bonds in the first quarter of 2008, according to Thomson Reuters. The bank’s decision to exit the muni business surprised financial analysts because UBS has so many wealthy clients who often invest in tax-free bonds.

Though at least one fund manager said the remaining underwriters might charge U.S. states, cities, hospitals and museums higher fees if they have one less rival, the Puerto Rico official disagreed. “One firm dropping out doesn’t affect that; the overall credit crunch affected us more.”

The subprime mortgage crisis slamming homeowners, banks and lenders earlier this year caused an exceptional rate-spike in the $2.6 trillion municipal bond market, pushing yields as much as 30 percent higher than taxable Treasuries.

For Puerto Rico, intermediate bonds now are priced at 100 to 120 basis points to top-rated paper, quite a jump from the 50-basis points spread seen last summer.

Puerto Rico has said its economy is in a recession, and with Gov. Anibal Acevedo Vila running for reelection despite a federal indictment on campaign finance fraud, investors have fretted about his ability to win the legislature’s approval of a new tax plan and run the government.

Boris Jaskille, executive director of the Puerto Rico Industrial Development Company, noted that the new recession-fighting tax bill is a consensus plan crafted with Senate and House leaders and the governor’s top aides. He expects the bill to be enacted within two to four weeks.

Bartolome Gamundi-Cestero, secretary, for the Department of Economic Development and Commerce, said the tax stimulus could help end the downturn by early 2008. “We should be able to start changing the numbers and indicators probably at the beginning of next year.”

The tax bill, which aims to be revenue-neutral and ease the burden on consumers who have suffered under the current 7 percent sales tax, cuts this levy to 2.5 percent, Jaskille said. The one percent of the sales tax now siphoned off to repay debt will not be touched, Irizarry-Herrans said.

A new 6.6 percent excise tax would be paid on imports of everything but prescription medicine and unprepared food, which the officials said would be easier for consumers because it would apply to the wholesale price, not the retail price.

The lifeblood of Puerto Rico’s economy is tourism and its manufacturing base, especially in medicine.

The new tax bill aims to attract service firms needed by manufacturers for everything from warehouses to automation by cutting their corporate tax rate to 4 percent.

That is down from the current 7 percent rate, which can fall to 2 percent, for example, depending on how many workers the company hired, Jaskille explained.

A new 12 percent royalty tax will apply, which is lower than the current 15 percent rate. Instead of taking deductions for those payments, companies will instead use royalty payments as credits on their tax bills — which they can also sell to other companies, Jaskille explained.

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