The Obstacles to Exiting Municipal Bankruptcy

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Paving the Way to Exit Bankruptcy. The Detroit City Council yesterday approved a crucial bankruptcy settlement that could pave the way for the demolition of Detroit’s downtown Joe Louis Arena to make way for a new hotel—in effect blessing the agreement worked out under the auspices of U.S. Judge Gerard Rosen behind closed doors between the Motor City and its last major holdout creditor, Financial Guaranty Insurance Co. Detroit Council President Brenda Jones, who testified less than three weeks ago in support of the plan of adjustment, was the only member to oppose the deal. Council President Jones did not describe her reasons for opposing the agreement before casting her vote, telling her colleagues she was “not proud of this settlement.” She has previously questioned the value of the Joe Louis property and who would be responsible for oversight of the hotel development. Under the settlement, downtown Detroit’s west riverfront would be transformed with a new hotel, residential and retail complex on the site of Joe Louis Arena, and its parking garage. The agreement also proposes to provide FGIC with about $74 million in cash from bonds the city will issue. In addition, FGIC and the municipal bond debt holders it insures are to receive another $67 million in bond proceeds—and FGIC, the city’s last remaining major holdout creditor, reversed its opposition to the city’s plan of debt adjustment awaiting U.S. Bankruptcy Judge Steven Rhodes approval—or disapproval—the week after next. Nevertheless, Detroit corporation counsel Melvin (Butch) Hollowell yesterday said the FGIC settlement signals a near-end to the largest municipal bankruptcy in the nation’s history: “This really puts a capstone on the remaining creditors in this chapter 9 file.”
Politics, Municipal Bankruptcy, & Governance. For San Bernardino’s elected leaders, November has become juggling season: the city has to juggle its efforts to put together a debt adjustment plan that will gain the approval of U.S. Bankruptcy Judge Meredith Jury if it is to emerge from municipal bankruptcy; it must undergo elections—and not just elections to municipal leadership, but also election measures—especially, in this instance, on Measure Q, a challenge to a provision in the city’s charter to reform Charter Section 186, a guarantee unique among California cities: a legal requirement that police and firefighters’ salaries be exactly the average of what 10 other California cities with a population between 100,000 and 250,000 pay for those positions. Those 10 cities vary by year, but the way they are selected ensures, in practice and previous experience, that base pay is the average pay of midsized cities. That significantly complicates the San Bernardino’s ability to structure a plan of adjustment—it is almost like the obstacle imposed by the uncertainty with regard to whether it can subject its pension obligations to a haircut—with the federal bankruptcy courts saying yes—and the California constitution and the state’s massive public retirement authority, CalPERS, saying no. It is like being between a double rock and hard place. The cost of police salary increases required by the city Charter §186 will surpass $1.3 million for the 2014-15 year, according to City Manager Allen Parker. That includes only base salary, but overtime and some benefits will also increase proportionally, Mr. Parker said in a statement, adding: “The salary increases are mandatory and are not based upon employee performance, the City’s financial condition, or departmental performance measurements,” adding that: “Of the cities chosen under the Police Safety Unit employees, four (4) are served under contract by the Los Angeles County Sheriff’s Department and three (3) are Northern California cities.” The delicate timing of the election comes as the city’s negotiations with the fire union, according to assertions it has filed with the federal bankruptcy court, have come to a halt—so, in effect, the significant legal meter is running at great cost to the city—and its fiscal future—but it is hamstrung in the nonce. §186 requires the city and union to alternately strike names from a list of California cities with a population between 100,000 and 250,000 to find the salaries, but there is no clear legal map what the alternative is if the fire union opts not to participate in that process. Moreover, because, in effect, §186 mandates salary increases, the city—in order to comply with the unfunded mandate―is likely to compel the city to slow down hiring — a slowdown which could adversely affect service levels and overtime. Currently, San Bernardino’s charter is the only one in the Golden State that mandates police and firefighter salaries be set with a formula such as §186.
Ruling Ahead. U.S. Bankruptcy Judge Christopher Klein is scheduled to issue his opinion on the City of Stockton’s proposed plan of debt adjustment next Thursday. Judge Klein, who at the beginning of this month ruled that, notwithstanding California’s state constitutional protection of municipal retirees’ pensions, federal bankruptcy law preempted the state bar—in effect offered the city the option of modifying its plan of adjustment to give a haircut to its pension payment obligations to the California Public Retirement System (CalPERS). Nevertheless, the city has remained opposed to any such reductions out of apprehension that any such retirement reductions would adversely affect city’s ability to retain and recruit workers. Stockton’s main remaining holdout creditor, Franklin Templeton Investments, is seeking to recoup more of the $35.1 million in bond debt the city owes than what is proposed under Stockton’s current plan of debt adjustment—in effect asking the city’s bondholders to share a disproportionate risk. Franklin Templeton has urged Judge Klein to reject Stockton’s plan. Unlike Solomon, Judge Klein does not have the option of cutting the baby in half: he can either approve or disapprove the city’s plan of adjustment, albeit Stockton Assistant City Manager Liz Warmerdam said Judge Klein’s earlier ruling could offer other California municipalities cities “more options” than they now have to address fiscal crises. In California, however, there is fear that taking on CalPERS as a means to avoid or get out of municipal bankruptcy risks significant legal costs that cities can ill afford in what is already a horrendously expensive process—pitting Davids against the CalPERS Goliath, and creating a costly delay in cities’ efforts to reorganize their way out of bankruptcy. There is also a competitive apprehension: in the wake of its 2012 bankruptcy filing, Stockton experienced an increase in crime in the wake of laying off police and leaving positions vacated by retirements unfilled.

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