NEW YORK (Bloomberg) — MBIA Inc., the largest bond insurer by outstanding guarantees, may face legal challenges over the split of its municipal business from its structured-finance guarantees, Standard & Poor's said.

The action, announced on February 18, resulted in a lower rating on MBIA's unit that will cover mortgage bonds and other complex securities than on a unit that will assume its public-finance guarantees and seek new ones, suggesting some policyholders may feel "disadvantaged", according to a report from S&P yesterday.

Their frustration will potentially hinder Armonk, New York- based MBIA's ability to win new business, and "it is uncertain whether there will be legal challenges, but this is another possibility", wrote Robert Green, an S&P analyst in New York.

The split, which followed soaring mortgage-bond losses at MBIA that stripped the company of AAA grades and left it unable to win new business, was approved by New York Insurance Superintendent Eric Dinallo. During a February 18 interview with Bloomberg Television, Dinallo said that MBIA's structured-finance unit should have enough capital to continue to pay claims to insured-bond owners.

"We believe we have adequate capital to meet all our obligations to our policy holders and debt holders, on time and in full," Kevin Brown, a spokesman for MBIA, said in a telephone interview.

The ability of both MBIA and Ambac Financial Group, which also lost its AAA insurance grades last year, to restart their businesses "will depend largely depend on regaining investor trust", S&P's Green wrote. New York-based Ambac said today it hopes to start a municipal-only unit next quarter.

Even public-finance policy holders may be wary after MBIA's restructuring, as deals by insurers including Ambac to cancel mortgage-debt contracts at discounts to expected losses also create doubt about the value of bond insurance, S&P said.