(Bloomberg) -- Detroit reached a new settlement in a bid to end interest-rate swap contracts with UBS AG and Bank of America Corp., cutting the termination amount to about $165 million from $230 million.

The settlement was presented to a mediator, U.S. District Judge Gerald Rosen, yesterday in federal court in Detroit, according to a transcript. The agreement still requires bankruptcy court approval. The next hearing in the case is scheduled for Jan. 3.

“This is an important development for the city and its residents because it means we can start moving forward on implementing needed investments in public safety and services,” Kevyn Orr, Detroit’s emergency financial manager, said in a statement.

U.S. Bankruptcy Judge Steven Rhodes on Dec. 18 suspended a trial over the original settlement, under which the city would have paid UBS and BofA’s Merrill Lynch unit $230 million to terminate interest-rate swaps that have cost the city about $202 million since 2009.

To fund the settlement, the city sought to borrow $350 million and use the extra money for restructuring projects. The agreement announced yesterday would cut that loan to $285 million, including about $120 million to fund city improvements, according to the statement from Orr’s office.

The new agreement represents savings of $128 million, or 43 percent, of what the city owed, compared with 25 percent savings under the previous arrangement, according to the statement.

‘Mediator’s Recommendation’

“The banks and the city, through mediation, and with the mediator’s recommendation, have accepted the reduction in terms,” Orr said in the statement. The deal is expected to close on or before Jan. 31, according to the court transcript.

Days before Detroit filed for bankruptcy, it reached a deal with the banks to terminate the swaps contracts, which a city service corporation signed with Zurich-based UBS and SBS Financial Products Co. Merrill Lynch, a unit of Charlotte, North Carolina-based Bank of America, took over the SBS position in July.

Originally designed to protect the city from rising interest rates, the swaps backfired when rates fell after the 2008 financial crisis. The interest rate swaps have cost the city about $4 million a month since July 2009.

Buying out the contracts will keep casino taxes, one of Detroit’s best sources of revenue, from going to the banks, Corinne Ball, a lawyer for the city, told Rhodes Dec. 17. The swaps are linked to $1.4 billion in pension obligation bonds the city issued in 2005 and 2006.

Too Costly

Creditors led by bond insurer Syncora Guarantee Inc. opposed the settlement, saying it was too costly. The city didn’t prove it would lose if it sued to cancel the contracts instead of settling with the banks, Syncora said.

Stephen Hackney, a lawyer for Syncora, didn’t immediately return a phone call and e-mail seeking comment on the new agreement.

Rhodes is not bound by the new agreement, Rosen told lawyers yesterday, according to the transcript.

“It’s fair to say he’s expressed that he has some reservations about some of the claims and it will be up to him to determine whether or not this is a fair and equitable settlement for the city and for swap counterparties,” Rosen said.

Detroit filed a record $18 billion municipal bankruptcy in July, saying decades of economic decline had left it without enough money to pay creditors and still provide services to about 700,000 residents.

The case is In re City of Detroit, 13-bk-53846, U.S. Bankruptcy Court, Eastern District of Michigan (Detroit).

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