INTERIM REPORT NO.

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INTERIM REPORT NO.
2
TASK FORCE ON ACCOUNTABILITY

THE BANK OF NEW YORK / BANK OF GUAM ASSIGNMENT

SCOPE

On March 13, 2000, the Cabinet approved and established a five-member task force known as the Task Force on Accountability (“Task Force”). Cabinet Minute C.M. 161 (00) states, in part, that the Task Force shall, from time to time, file reports, which shall include findings of facts and recommendations with the Cabinet and the Attorney General. In this regard, the Task Force shall:

Investigate any evidence indicating a misuse of public funds.

BACKGROUND

The Task Force’s review disclosed matters relating to the validity of an Assignment under, and the application of, the Government Liability Act (3 MIRC, Chapter 10), which provides for the making of, and entering into, all contracts or agreements with the Government or its agency and the Financial Management Act 1990 (11 MIRC, Chapter 1), which provides for the making of assignments.

REVIEW OF THE BANK OF NEW YORK / BANK OF GUAM ASSIGNMENT

1. Introduction:

In July 2000, the Ministry of Finance (“Ministry”) was notified by the Bank of New York (“BONY”) that it was unable to retire certain debt obligations incurred by the Republic. Upon inquiry by the Ministry, it was discovered that certain funds were held back by BONY pursuant to a previously undisclosed  Assignment by a certain Kwajalein Landowner (“Landowner”).

Various references are made herein to the Government Liability Act 1980, 3 MIRC 10; Financial Management Act 1990, 11 MIRC 1; Government Borrowing Act 1985, 11 MIRC 10; Kwajalein Atoll Trust Fund Act 1980, 22 MIRC 1; and the Criminal Code, 31 MIRC 1.

2. Findings:

Upon consideration of relevant available documents and interviews of willing and available witnesses, the Task Force makes the following findings:

a. The ASSIGNMENT AGREEMENT AND GRANT OF SECURITY INTEREST IN COMPACT FUNDS (“Assignment”), a copy of which is attached hereto as Exhibit “A”, dated September 15, 1998, was made in relation to a personal loan given by the Bank of Guam (“BOG”) to a certain Kwajalein Landowner in the amount of $400,000.

b. The Assignment was signed by the following persons and entities:

i. The Landowner and his younger brother as “Landowners” on September 1, 1998;

ii. Bank of Guam, Majuro Branch, as the Lender on September 24, 1998;

iii. Bank of New York as the Trustee Bank on September 16, 1998;

iv. Office of the Minister of Finance, by the former Finance Minister on September 7, 1998, approving and accepting the Assignment; and

v. Office of the Attorney General, by the former Attorney-General, on September 1, 1998,  approving the Assignment “as to legal substance, form and execution.”

c. At the time of making the Assignment, the Landowner was the President of the Republic of the Marshall Islands. The Minister of Finance at the time of the Assignment and through the end of 1999 is referred to herein as the “former Finance Minister.” The Secretary of Finance for several years until shortly after the Assignment is referred to herein as the “former Finance Secretary.” The Secretary of Finance for almost all of 1999 is referred to herein as the “previous Finance Secretary.” During all of 2000 and part of 2001, there was no Secretary of Finance, so the Acting Secretary of Finance during that period is referred to herein as the “Acting Finance Secretary.” The Minister of Finance from January, 2000, to the present is referred to herein as the “Finance Minister.”

d. The Secretary of Finance, not the Minister of Finance, is the head of the Finance Department (Article VII, Section 4, of the Constitution).

e. In regard to any contract with the Government or any agency of the Government:

i. the Secretary of Finance or his designee must certify in writing that an appropriation has been made for the full amount of the contract liability and that funds are available. (Government Liability Act, Section 3(1)(d)); and

ii. the contract must be executed by a contracting officer authorized to sign on behalf of the Government (Government Liability Act, Section 3(1)(f)).

f. The Finance Secretary had no knowledge of the Assignment, did not certify that an appropriation had been made for the full amount of the contract liability, and did not certify that funds were available for the Assignment.

g. The former Finance Minister did not have written authorization from the Cabinet to execute the Assignment on behalf of the Government.

h. Any contract which does not comply with the provisions of Section 3(1) of the Government Liability Act (including those provisions identified in e(i) and e(ii), above) is void and unenforceable in law or equity, except that the Government has the right to recover any monies expended under such a contract. (Government Liability Act, Section 3(2)).

i. No assignment of monies by a person to whom the Republic is directly indebted shall be effective unless the assignment is first approved by the Secretary of Finance (Financial Management Act 1990, Section 148).

j. The failure of the parties to the Assignment, including the former Attorney-General, to ensure compliance with the aforementioned provisions of the Government Liability Act and Financial Management Act, by having the former Finance Secretary certify and approve of the document and by having the former Finance Minister obtain written authorization (from Cabinet) to execute the Assignment on behalf of the Government renders the Assignment void, unenforceable, and ineffective and the Government, at its option, is entitled to recover all monies paid to BOG by BONY. The mere fact that the former Finance Minister and the former Attorney-General executed the Assignment did not relieve parties of the duty to obtain the certification and approval of the former Finance Secretary.

k. The purported Assignment directly authorized BONY to transfer $45,000 quarterly “from that portion of the Kwajalein Payments that portion of said Compact funds payable pursuant to the LUA to the Landowner, to the Bank of Guam . . . “1  The transfer of funds by BONY to BOG was made prior to payment of funds by BONY to, and receipt of funds by, the Ministry. Thus, the Landowner purported to assign a portion of his Kwajalein land payments authorized under the Land Use Agreement, such payments being made a part of the Compact payments, in order to pay his personal loan.

l. Banking institutions in the Republic have frequently granted personal loans using the borrower’s quarterly Kwajalein land use payments as collateral. The assignments involved in these loans have all been from the Secretary of Finance to the particular bank. BOG explained that the reason for this Assignment from the BONY to the BOG was the lack of confidence in and the unreliability of the Ministry through prior experiences with the former Finance Secretary. According to BOG, the former Finance Secretary failed to comply with the terms and conditions of earlier assignments. On one occasion, BOG received a quarterly payment from the Landowner through an assignment, only to discover that the former Finance Secretary had stopped payment on the check at the Landowner’s request.

m. Quarterly transfers of $45,000 by BONY to BOG should have commenced by the October, 1998, or at least by the January, 1999, quarterly payment. However, allegedly due to a transfer of responsibility for RMI affairs from BONY, New York, to BONY, Singapore, the transfers did not actually commence until May 5, 1999.2

n. BONY made $45,000 transfers to BOG on the following dates:

i. May 6, 1999;

ii. July 14, 1999;

iii. October 14, 1999;

iv. April 18, 2000;

v. July 17, 2000;

vi. December 1, 2000;3

o. The Assignment only authorized $45,000 transfers from the BONY to the BOG as a method of repayment of the Landowner’s $400,000 BOG loan. However, on at least 5 occasions, BOG has, without authorization, used a portion of the $45,000 transfers as repayments on a separate $50,000 loan (“2nd Loan”) for the Landowner. Specifically, those improper payments, totaling $47,149.45, by BOG made after its receipt of the $45,000 transfers from BONY were as follows:

i. On May 6, 1999, $20,807.41 was credited to the Landowner’s 2nd Loan;

ii. On July 14, 1999, $3,005.61 was credited to the Landowner’s 2nd Loan;

iii. On October 14, 1999, $14,683.83 was credited to the Landowner’s 2nd Loan;

iv. On April 19, 2000, $4,326.30 was credited to the Landowner’s 2nd Loan; and

v. On July 31, 2000, $4,326.30 was credited to the Landowner’s 2nd Loan.

The effect of BOG’s improper crediting transfers to the 2nd Loan is that (i) it necessarily lengthens the life of the Assignment; and (ii) increases the Landowner’s debt costs as the interest rate on the $400,000 loan is substantially higher than the interest rate on the 2nd Loan.

p. The employees of the Ministry, other than the former Finance Minister, were unaware of the BOG loan agreement or the Assignment until July, 2000.4 Therefore, the employees of the Ministry continued to calculate and distribute to the Landowner his full quarterly share of the Kwajalein land use payment without deducting the $45,000 that was being transferred to the BOG by BONY on the Landowner’s behalf. The Landowner’s attorney claimed that he advised the Ministry of the Assignment at the time it was entered into. The Task Force has found no documentation of any communication or correspondence of any kind at the Ministry to suggest that the Landowner, or his attorney, or the former Finance Minister notified the Ministry of the Assignment.5

q. The Landowner continued to simultaneously receive the benefit of his full quarterly Kwajalein land use payments and the quarterly BONY-BOG $45,000 loan payments. At no time did the Landowner notify the Ministry that he was being overpaid by $45,000 per quarter. The Landowner may have known or should have known, that the $45,000 loan payments were not being deducted from his quarterly Kwajalein land use payment checks. For example, the Landowner̵7;s October, 1998, Kwajalein land use payment, prior to the commencement of the $45,000 BONY deductions, was $711,358 - the same amount as his October, 1999,  Kwajalein land use payment, after the commencement of the $45,000 BONY deductions.6 Additionally, it must be noted that any particular Kwajalein landowner should have received checks of identical amounts in each January from January 1997 - January 2001 and identical amounts in each April from April 1997 - April 2001.7 

However, the Task Force found that Kwajalein landowners generally are not aware of the amounts of their quarterly payments. In fact, in July, 1996, the Ministry erroneously calculated the amount due the Kwajalein landowners and underpaid them, as a group, by $54,600. Then, in October, 1996, the Ministry again erroneously calculated the amount due the Kwajalein landowners and underpaid them by $195,875.8 Only one Kwajalein landowner noticed the error. In order to remedy the situation, the Ministry properly added the total amount of $250,475 to the correct sum due the Kwajalein landowners in January, 1997.9  No Kwajalein landowner questioned the increased January payment. The Kwajalein landowners generally trust the Ministry to ensure that they each receive their proper pro rata quarterly amount.

r. The Secretary of Finance is required to maintain proper accounts and records in the Marshall Islands General Fund or other designated fund relating to each loan raised under the Government Borrowing Act. (Government Borrowing Act 1985, Section 7). If the previous Finance Secretary in 1999 and former Acting Finance Secretary in 2000 complied with this requirement, it is likely that the $45,000 transfers by BONY to BOG would have been discovered. Neither person appears to have properly tracked the Compact funding from the U.S. Treasury to BONY and then from BONY to the bondholders and the RMI. Had the funding been properly tracked, the various $45,000 discrepancies would have been noted.

s. At each regular session of the Nitijela, the Minister of Finance is required to present a report on all loans raised under the Government Borrowing Act and not fully repaid, and a report on the state of the loan funds. This report must include, among other things, (i) the number of loans outstanding; (ii) the number of loans raised during the last preceding calendar year, and the amounts of money received from each loan; (iii) the cost of raising the loans; (iv) the amounts paid out of the Marshall Islands General Fund or other designated fund during the last preceding calendar year, including the amounts in repayment of principal and the amounts in repayment of interest; (v) the cost of administering the loan funds including bank charges; (vi) the total amount of monies due, or becoming due, for payment out of the Marshall Islands General Fund or other designated fund in the current calendar year with respect to expenditures under loans, repayment of loans, and payment of interest on loans; and (vii) the total amount of loans which had not been repaid by the close of the last preceding calendar year (Government Borrowing Act 1985, Section 8). If the Finance Minister, in early 2000, had complied with this requirement, it is likely that the $45,000 transfers by BONY to BOG would have been discovered. In preparation of his report to the Nitijela, the Finance Minister likely would have noted that there was not adequate funding available to discharge the RMI debt obligation for the remainder of the year. Upon further inquiry, the Finance Minister should have discovered the various $45,000 discrepancies. The former Finance Minister also failed to comply with these provisions, but as the $45,000 transfers did not occur in calendar year 1998, a 1999 report on the RMI debt payments during calendar year 1998 would not have identified the discrepancies.

t. BONY failed to comply with the terms and conditions of the Assignment:

i. As previously noted, despite the fact that all signatories to the Assignment had executed it by the end of September, 1998, BONY did not commence the $45,000 payments to BOG until May 5, 1999; and

ii. The last sentence of Section 1 of the Assignment states:

RMI and the Landowner do hereby irrevocably instruct the Bank of New York, in its capacity as RMI Trustee, to transfer from that portion of the Kwajalein Payments that portion of said Compact funds payable pursuant to the LUA to the Landowner, to the Bank of Guam in order to fully and completely pay Landowner’s obligation to the Bank of Guam under the Loan Documents.

While this sentence, like the language of the entire Assignment, is poorly drafted and confusing,110" target="_blank">0 the Task Force finds that it was the duty of BONY to pay BOG $45,10" target="_blank">010" target="_blank">010" target="_blank">0 each quarter and to simultaneously deduct each such payment from the Compact funds otherwise due the RMI. Instead, BONY failed to deduct each $45,10" target="_blank">010" target="_blank">010" target="_blank">0 payment from the Compact funds due.11  If BONY had properly deducted each $45,10" target="_blank">010" target="_blank">010" target="_blank">0 payment from the Compact funds due the RMI, the Ministry should have discovered the discrepancy and subsequently discovered the existence of the Assignment.

iii. BONY failed to transfer $45,000 to BOG in October, 1998; January, 1999; January, 2000; and January, 2001; and transferred the $45,000 from the October, 2000 payment only in December, 2000.

u. In early October, 2000, the Acting Finance Secretary, through the Office of the Attorney General, began negotiations with the Landowner and his attorney regarding repayment of the $45,000 loan payment transfers from BONY to BOG. The intention of the Office of the Attorney General was to either reach a prompt agreement with the Landowner on repayment to the Ministry of the $225,000 in transfers  then due, or to have the Ministry off-set the entire $225,000 from the Landowner’s $718,738 October Kwajalein land use check pursuant to the off-set provisions of the Financial Management Act 1990. All parties were aware that the $718,738 payment due the Landowner for October was more than adequate to pay the entire amount owed. The Office of the Attorney General instructed the Ministry to hold the Landowner’s check until an agreement could be reached. However, the Finance Minister instructed the former Acting Finance Secretary to release the check to the Landowner, contrary to the instructions and legal advice of the Office of the Attorney General. The Finance Minister released the October check of $718,738 to the Landowner in exchange for the Landowner’s promise to pay back $35,000 to the Ministry, which he did several days later. However, as the BONY-BOG October transfer was $45,000, the Finance Minister thus permitted the Landowner to become indebted to the Ministry by an additional $10,000, raising his total indebtedness to the Ministry for his personal loan payments to $235,000. So, in sum, instead of using the mandatory setoff provisions of Section 157 of the Financial Management Act and collecting the full $225,000 owed to the RMI from the Landowner’s $718,738 October 2000 payment, the Finance Minister allowed the Landowner’s debt to the RMI to increase from $225,000 to $235,000.

v. The Landowner has now agreed with the Cabinet to a final negotiated schedule of payment, which includes the recovery by the Ministry of all amounts outstanding from the $45,000 transfers from BONY to BOG. The payment schedule includes $45,000 deductions to be made each quarter.12

w. BONY may have violated its debenture trust agreement with the RMI by accepting the assignment of funds by the Landowner of a portion of RMI Compact funds, even though the Landowner was entitled to a portion of the funds.13 The Assignment does not identify and ascertain the amount of the Kwajalein Payments due the Landowner each quarter. Only the former Finance Secretary was able to identify and ascertain the varying amounts of quarterly payments due the Landowner. Furthermore, the Assignment does not even indicate that the Landowner’s quarterly payments are in excess of $45,000. Therefore, the Task Force finds that BONY was grossly negligent in accepting and approving the Assignment as written. 

x. In January, 2001, BONY withheld $135,000 from the Compact funds due the RMI, purporting to be the $45,000 transfers that BONY was going to make to BOG for the January, April, and July, 2001, quarters. BONY’s withholding of the $45,000 transfers for the April and July, 2001, quarters was improper as the January, 2001, transfer has not yet been paid to BOG, and the April and July, 2001, transfers are not yet due for payment to BOG. The $45,000 withholdings should only occur in the quarter in which the transfer to BOG is to be made. This action by BONY has caused a shortfall in the Compact funds received to date by the RMI. This, in turn, has caused funds not to be available for appropriate distribution by the RMI pursuant to the provisions of the Compact.

3. Recommendations:

The Task Force findings above indicate further deficiencies in the Ministry of Finance and the Office of the Attorney General wherein public officials and employees are not aware of, do not understand, or elect not to comply with various and mandatory provisions of law while entering into agreements on behalf of the Republic. The Task Force has reviewed other contracts pursuant to which payments were required to be made by the Republic, but to which the Secretary of Finance was not a signatory. Even though such documents by law may be void and of no effect, the Ministry usually honors such contracts and makes payments thereon. In the matter of the present investigation, BONY should not have accepted the Assignment of an individual’s portion of the RMI Compact funds, in view of the fact that only the former Finance Secretary was qualified to determine, ascertain and identify the existence and amount of such funds. BONY has one account for the RMI, which does not classify the various outlets for Compact backed funds.14  Its acceptance of the Assignment amounts to distribution of the RMI Compact funds, which only the Ministry through the Secretary of Finance is qualified to do. Therefore, having regard to the foregoing, the Task Force makes the following recommendations:

a. The total and full amount transferred by BONY to BOG on behalf of the Landowner should be recovered as directed by Cabinet Minute No. 018(2001).

b. The Ministry should request BONY to provide detailed statements from January 1998 to the present of all compact funds received and all disbursements made. The statements should specifically identify payments of principal, interest, and other fees made to the specific bondholders on specific bonds. BONY should also provide the Ministry an accounting of any losses, late fees, increased interest payments, or penalties, if any, incurred by the RMI as a result of BONY’s failure to deduct the $45,000 loan payments from the transfers of the Compact funds made to the RMI, including those imposed by BONY on the RMI due to its inability to service its bond debts as a result of deductions pursuant to the Assignment. BONY and/or the former Finance Minister15 should be held liable for any such loss or damages incurred by the RMI.

c. The Ministry should immediately take the necessary steps to ensure that following the receipt of the July, 2001, Compact funds, all contractual relations, including custodial and trustee services, with the BONY are terminated. The RMI should seek forthwith the services of and enter into an agreement with another financial institution. The agreement with the new financial institution should be explicit as to what types of transactions should be honored by the institution. Copies of the various RMI laws regarding financial management, borrowing, and liability should be provided to the institution.

d. BOG should be required to recalculate the principal and interest payments received by properly applying the improper credits to the 2nd Loan to the Loan as of the dates they were originally made. BOG should be required to apply all funds received and to be received from BONY on account of the Landowner’s Loan to the specific loan of $400,000 which was the subject of the Assignment, and not to any other loan.

e. The Office of the Attorney General should ensure that its constitutional duties are not abrogated and should carefully review all government contracts to ensure strict  compliance with RMI law.

f. The Finance Minister and current Secretary of Finance should each make a list of, and strictly comply with, all of their respective duties and responsibilities under the Government Liability Act, Financial Management Act, and Government Borrowing Act.

g. Henceforth, the employees and officials of the Ministry of Finance, or any other Ministry, who repeatedly fail to comply with the laws and regulations of the Republic should be removed from their positions.

4. Confidential Recommendations:

a. See Confidential Recommendation “a.”

b. See Confidential Recommendation “b.”

c. See Confidential Recommendation “c.”

5. Conclusion:

The Landowner used his position with the RMI government to obtain an Assignment agreement with the BONY and BOG that was not available to other Kwajalein landowners. The Finance Secretary did not approve of the Assignment and, therefore, it was invalid under the laws of the Republic. The former Finance Minister and the Attorney-General improperly approved of the Assignment. The involvement in the Assignment of the Landowner’s personal attorney, who was also the legal advisor to the President and Cabinet at the time of the Assignment, is unknown. While the BONY sometimes complied with the terms of the Assignment by transferring $45,000 per quarter to the BOG to pay off the Landowner’s personal loan, the Ministry, which was unaware of the terms of the Loan or Assignment, did not deduct the $45,000 per quarter from the Landowner’s Kwajalein land payments. BONY further exacerbated the situation by neglecting to deduct the $45,000 transfer payments from Compact funding transferred to the RMI. The Task Force found that the Attorney-General and successive Secretaries and Ministers of Finance were not aware of, did not understand, or elected not to comply with certain provisions of the law. If they had done so, either the Assignment would have been properly made in the first instance or, at least, the former Acting Secretary and the Finance Minister might have discovered the $45,000 transfers early in 2000.

Respectfully submitted this 15th day of March, 2001:

Moses S. Gago, Chairman

Jean M. Tonyokwe, Member

David M. Strauss, Member

Phillip Kabua, Member

George Lanwi, Member

1  The Landowner relied upon the terms of the Kwajalein Land Use Agreement throughout the Assignment. Yet, in Civil Action No. 2000-133, Balos, et al. v. RMI, the Landowner claimed that the same Kwajalein Land Use Agreement, which he substantially relied on to obtain the Loan and Assignment, was VOID.

2  The reasons, if any, for the transfer of responsibility concerning the Compact funding from the New York branch of BONY to the Singapore branch of BONY, and the resultant delays in funding transfers, have never been adequately explained by BONY to the RMI. Further investigation of this matter may be warranted by another investigative body.

3  In addition to delaying the $45,000 October transfer to December 1, 2000, BONY, to date, has failed to transfer the $45,000 due BOG from the January, 2001, payment. BONY has refused to respond to Task Force requests for an explanation of their failure to comply with the terms of the Assignment.

4  The Task Force was unable to interview the previous Finance Secretary to determine whether he was aware of the Loan and Assignment. The previous Finance Secretary was last known to be employed by the Northern Marianas Development Authority and would be subject to the subpoena of another investigative body.

5  The former Finance Minister declined an invitation to explain his actions to the Task Force.

6  The Landowner personally endorsed the October, 1998, and October, 1999, Kwajalein land use payment checks in the amounts of $711,358 each.

7   The January and April quarterly Kwajalein land use payments are not affected by the inflation factor adjustment which applies to every October and July payment.

8   See Exhibit B attached hereto.

9   See Exhibit C attached hereto.

10  For example, there is not even a date upon which the parties can rely for the first transfer of $45,000 from the Compact funds.

11  Upon receipt of Compact funds from the U.S., BONY held back sufficient funds from RMI’s October payments to pay all of RMI’s debts (to bondholders) for the entire fiscal year. Therefore, RMI received the total Compact funds due to it less the amounts set aside for payment to its bondholders. However, BONY failed to make the necessary $45,000 quarterly deductions from the amount transferred to the RMI. As a result, BONY used part of the funds due to be paid to the bondholders to pay the $45,000 quarterly transfers pursuant to the Assignment, thus causing a shortfall on the RMI’s ability to pay its debts to its bondholders in July 2000.

12  See Cabinet Minute No. 018(2001) and the Landowner’s Authorization for Withholding Funds from Kwajalein Land Use Payments.

13  BONY, Singapore Branch, informed the Task Force that, as far the Bank is concerned, RMI maintains one account with BONY for all its Compact funds, and the classification of the funds for application to various purposes and uses was the responsibility of the RMI..  

14  BONY is only a custodial/trustee Bank through which RMI receives its Compact funds from the United States. As trustee, BONY deducts all valid RMI pledges for payment to creditors, and forwards the unencumbered portion of the funds to the RMI. The Assignment in this case is not an “RMI pledge”, but rather, it is an individual’s encumbrance of his share of the Kwajalein land payments, which are only made to the landowners after the money is received by RMI.

15  At the very least, the former Finance Minister was negligent in executing the Assignment without authority, in not having the former Finance Secretary execute the Assignment, in not notifying the Ministry of the Assignment, and in not ensuring that the Ministry made the $45,000 deductions from the Landowner’s quarterly Kwajalein payments.

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