A PLAN TO refinance approximately $128 million in water and sewer debt in Jackson has been scaled back after the city’s insurance provider wouldn’t back the terms of the agreement.

The Jackson City Council voted to enter into a swap agreement earlier this year with Duetsche Bank and Rice Financial Products. The move would have allowed the banks to essentially exchange the city’s bonds for bonds with lower fixed interest rates.

The agreement would have generated between $10 million and $13 million in upfront cash for the city and would have meant lower payments on bond indebtedness.

But the proposal came to a screeching halt recently when insurance provider Financial Security Assurance wouldn’t approve the deal because of its risks. Jackson is now planning to swap a much smaller amount, about $40 million in debt.

“In order to issue a swap, the insurance provider has to sign off on it,” Finance Director Rick Hill explained. “One of the requirements of FSA was that if the city had to pay a term-out fee, that they would have five years to pay it.”

It was a term that Duetsche Bank, one of the counterparties brought on for the transaction, wouldn’t agree to.

A term-out fee is charged to the municipality if the transaction falls through. Hill said the fee is not set and would be reflective of the market.

DUETSCHE AND RICE are the two financial institutions that will conduct the swap if a new transaction is approved by the council and signed off on by the incoming administration. After negotiations, FSA agreed to allow Jackson to swap the smaller amount to reduce its risk.

If the city moves ahead with the swap, beginning in 2014, the city would hire an underwriter to issue new bonds with variable-rate interest to pay off its current debt. Duetsche and Rice would take those bonds and sell them to investors for lower fixed interest rates.

If a lower rate isn’t found, the bank would wait a year and try again. The city’s current fixed rate is 4.99 percent.

Jackson hopes that the swap will result in a new rate of 3.5 percent or lower, which will save taxpayers about $400,000 a year during the life of the loan. Under the new transaction, the city would receive no upfront money. Officials like Hill and Public Works Director Thelman Boyd hoped to use the upfront funds to update the city’s water and sewer billing system.

While some say the swap sounds like a great deal, Ward One Councilman Jeff Weill is wary of the transaction.

He points to Jefferson County, Ala., as a prime example of a swap transaction gone bad. The Birmingham News reported late last year that the county faced as much as $439 million in interest resulting in a swap of $3.2 billion in sewer debt. At the time of publication, the county was considering filing for bankruptcy.

Hill said the banks involved in Jefferson County were unable to find anyone to buy the county’s variable-rate debt. He said Jackson has safeguards in place to prevent the same things from happening here. “They went way beyond normal practices,” he said.

If Duetsche and Rice are unable to find buyers for the variable-rate debt, he said the city will take out another loan at a fixed rate to pay it off.

WEILL SAID THERE are other drawbacks to the transaction as well. He said if the city defaults on the loans, they’ll be required to pay the entire amount of the debt immediately. The swap would also be terminated if the capital city’s water and sewer rating dropped several notches.

Two firms, Standard and Poor’s and Moody’s, provide the rating based on several factors, including the water sewer fund. Hill said the rating could drop if Jackson lost a significant portion of its water and sewer customer base or if there was a major infrastructure problem that continued over an extended period of time.

The swap will cost the city a little more than $2 million, which goes to a host of firms, including the swap advisors and bond lawyers. Weill said he’s concerned that the advice received by the city has been fee-driven. He hopes to bring on an independent advisor to give the city direction.

“I have no objection to it if we all understand it,” he said. “It’s a very complex and convoluted financial product.”