The Long & Challenging Road to Recovery from Municipal Bankruptcy

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eBlog, 5/20/16

In this morning’s eBlog, we discuss the bipartisan, House-Administration breakthrough and introduction of bipartisan legislation to address the nearing insolvency of the U.S. territory of Puerto Rico; and we look at charter revisions—revisions we suggested years ago—which could be vital to a post-bankrupt San Bernardino, and, lastly, we consider obstinate challenges—in the form of deep pockets of poverty—in post municipal bankruptcy Detroit.

The Promise of Promesa. Congressional leaders, on a bipartisan basis, are lining up in support of the proposed legislation to avert a July insolvency in Puerto Rico, with the newly revised PROMESA bill from the House Natural Resources Committee gaining the backing of Speaker Paul Ryan (R-Wis.) and Minority Leader Nancy Pelosi (D-Ca.), as well as the White House, with House Speaker Ryan yesterday noting he was confident a majority of House Republicans would back the measure, which could reach the House floor at the beginning of June, and that: “We got this bill exactly where we wanted it.” Minority Leader Pelosi and U.S. Treasury Secretary Jack Lew characterized the measure as one they can support, and Ranking House Natural Resources Committee Member Rep. Raúl Grijalva (D-Ariz.) described the bill as imperfect, but said it is critically needed, noting that while there were aspects of the bill that concerned him, he was “more concerned about the humanitarian crisis unfolding on the island.” House Natural Resources Committee Chair Rob Bishop (R-Utah) said his committee would likely take up the measure next week, but that consideration by the full House would have to wait until after the Memorial Day recess. As drafted, the revised bill would establish a fiscal control board to steer the U.S. territory’s debt and finances in order to restructure Puerto Rico’s $72 billion in debt. Nevertheless, the bill still confronts hurdles: it must get through the amendment process in Committee and then the House floor—and all that before the Senate even begins consideration. For his part, U.S. Treasury Secretary Lew warned: “Congress must stand firm and resist calls from financial interests to undermine this effort every step of the way — in committee, on the House floor and in the Senate.”

San Bernardino Proposes a New City Charter. The San Bernardino City Council has voted 5-2 to ask the city’s voters to approve a proposed, new city charter—a charter which will include all the reforms a committee believes will help streamline municipal governance, but which would also mandate the city to have its own police department—barring any outsourcing. In the wake of two hearings before Council, the Council expects to vote by August 12th, especially since that is the deadline set for submitting the new charter on the November 8th ballot. In our case study on the city, the city in municipal bankruptcy longer than any other city in U.S. history, we noted that, in the estimation of most individuals, a key challenge for the city was in its charter, about which we wrote: “Decision-making authority over budgets, personnel, development and other matters is fragmented between and among the mayor, city manager, city council and city attorney—as well as several boards and commissions. Elected officials do not have the power to alter the salary calculations resulting from these provisions (except through voluntary negotiations with the representatives of that set of employees). These provisions greatly reduce the ability and flexibility of the city to adapt to economic and fiscal conditions as they change over time.”

The new charter is the outcome of a two-year process by a nine-member charter review committee: the revised version is a slimmed down 12-pager, a quarter the size of its predecessor: it proposes a city council-city manager structure. The revised charter, reflecting issues raised in our Center’s report on San Bernardino, relates to the provisions of the city’s proposed plan of debt adjustment, which “made clear the city’s need to streamline governance and operations,” according to the 24-page report presented to the City Council by the charter review committee. The report notes that decades of questionable management and inefficiency were the result of the San Bernardino’s “antiquated” charter, which “complicates daily management and generally neutralizes executive authority.” Under the proposed charter, the positions of city clerk, city attorney, and city treasurer would no longer be elected: the city clerk and city attorney would be appointed by the City Council. Other parts of the city’s governance structure would remain largely the same, including its ward system, the number of wards in the city, and the terms or length of service the mayor and each council member could stay in office. The mayor would continue as a full-time elected position; water board commissioners and library board members would retain their independence.

An issue in the revised charter which drew an adverse response from the Council was the absence of language requiring the city to have its own police department—an omission with which the majority of council members took issue: Councilman Henry Nickel said he did not want the charter committee’s last two years of work be in vain, and wanted to ensure voters approve the new charter by including a provision mandating the city have its own police department, stating: “I think there can be some reasonable, modest revisions we can make to make sure this is palatable to the citizens we represent…I think there’s some fine-tuning we need to do.” Councilmember Fred Shorett warned that any stalling or further revisions to the charter could potentially delay the process and tie the hands of future council members, telling his colleagues: “The public needs to get engaged…It’s time for us to roll up our sleeves and get this on the ballot.” Former Mayor Pat Morris urged the Council to approve the charter as presented: “This is your opportunity to approve their work and move it to the electorate for a vote. I urge you to do it without alteration, or to amend or add to or delete from this recommended new charter…If you do that, you open it up to the allegation that it has been politically massaged,” adding that any changes to the new charter could eliminate future councils from acting in a flexible way to best manage the resources of the city.

Nevertheless, the majority appeared intent on insisting that the city have its own police department: But the council majority stood firm. Councilwoman Virginia Marquez said: “I believe we need a municipal police department. I don’t know what the big deal is,” even as the president of the San Bernardino Police Officers Association, Steve Desrochers, praised the change, advising the Councilmembers: “That was something that we had requested and worked for…I want to thank the council. I think it was forward-looking and it’s going to improve the morale, at least at the Police Department.” He noted he had pushed for the provision prohibiting outsourcing as well as one that would require police compensation to be average, similar to Section 186 of the current charter, which sets pay as the average of 10 like-sized cities. He added that the police union would remain neutral on the proposed charter for now, but said the document was important and that the time had come to change it; however, City Attorney Gary Saenz said the requirement for an in-house Police Department might hold the city back in the future, even though there had not been here any plans to outsource it in the foreseeable future—adding that he was unaware of any other city that required a city-run police force.

For the most part, the charter revision committee had sought to base the new charter on what its members perceived as successful in other cities, but the committee had retained some unusual provisions — including the autonomous water and library boards — to avoid a fight when the peculiarity did not seem to be causing any problems, according to Mr. Saenz said: “Rather than having that resistance to the charter, since that did not seem to be one of the pressing issues in the last decade or so, they thought let’s avoid that issue.”

Challenges to Recovery in the Motor City. Stephen Henderson, the Detroit Free Press Editorial Page Editor yesterday wrote a searing piece about the way poverty is changing and deepening in post-bankrupt Detroit—comparing what he is observing to the depth of poverty he had observed in central Kentucky, and places deep in Appalachia, adding that it was not the “depth of Kentucky poverty in the early 1990s that struck me. It was the isolation that accompanied it. Deep in coal country, it’s just difficult for the poor who live there to even get to a place where things are better. Rough topography cultural estrangement, public policy — it all created a wicked recipe for inter-generational poverty.” After which he wrote that in present day Detroit, poverty is changing, and deepening in the city in ways that reminded him of what he had experienced so many years ago in Kentucky: “For many of the poor here [Detroit], the city is becoming an economic chasm that’s largely cut off from areas where there’s more opportunity. Higher-paying jobs, better schools, or the means to access those kinds of opportunities, are all moving farther away from the city’s deepest pockets of poverty…It’s also lurking just beneath stories about entire areas of the city where there are no longer any quality school options — like far northwest, where a single, low-performing charter high school is the only choice residents have…Deep urban poverty in places like Detroit is beginning to resemble, to me, rural poverty like Kentucky. It’s a story I’ve been telling for a while — dropping into speeches and columns. Now, with the help of some numbers from the Brookings Institution in Washington, I’m able to make that about more than anecdotes. (He was referring to a new study by Brookings, “U.S. concentrated poverty in the wake of the Great Recession”), in which the authors wrote how, in Detroit and other urban areas across the country, there has been a dramatic increase in “concentrated poverty,” defined as the percentage of the poor who live in neighborhoods whose poverty levels are at least 20%, and which, in too many cases higher than 40%, writing that: “In a way, it’s a measure of isolation — how packed poor people are in areas where there aren’t people of more means nearby. According to Brookings, 64% of poor people in metro Detroit live in areas like that today, up from 54% of poor people back in 2000.” He closed by writing: “And if you try to find other areas to compare with Detroit with regard to that kind of concentrated, or isolated, poverty, many rural areas — in Michigan as well as Kentucky — leap out…County-level data in Michigan, for instance, ranks Wayne, home to Detroit, as having the fifth-highest concentrated poverty level.”

How One Remarkably Gifted Leader Can Make a Difference in Averting Municipal Bankruptcy & Ensuring Continuity of Essential Public Services

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In this morning’s eBlog, we applaud, for the umpteenth time, the rhythm guitar lead of the Indubitable Equivalents, the peripatetic, retired (or so he claims…) U.S. bankruptcy Judge Steven Rhodes, who oversaw the rock and roll trial and exit of Detroit from the largest municipal bankruptcy in U.S. history, but who, since then, has made himself indubitably available to create solvency rhythm from Puerto Rico to the small municipality of Hillview, Kentucky. Somehow, his patience and ear for creating fiscal rhythm has proven unique and invaluable.  Judge Rhodes’ intellect, tact, and public commitment would be an invaluable factor to resolution of the nearing insolvency and default of Atlantic City.

A Different Hill Perspective. Hillview, Kentucky, the small municipal suburb of Louisville, has opted not to pursue municipal bankruptcy; instead the city will issue new municipal bonds and raise taxes to settle a legal judgment it owes to its largest creditor, Truck America, according to documents filed in the U.S. Bankruptcy court yesterday. In a joint filing, Hillview and Truck America Hillview’s municipal bankruptcy filing was the first sought by any U.S. municipality since Detroit had filed in 2013. Training LLC stated that in the wake of “exhaustive, arms-length negotiations” with three different mediators, they had reached agreement to permit the City of Hillview to settle Truck America’s $15 million claim at a discount. That agreement, in which the itinerant and electronically, musically retired U.S. Bankruptcy Judge Steven Rhodes served as a mediator, paved the way for U.S. Bankruptcy Judge Alan C. Stout to schedule an expedited hearing this morning to consider a motion which would provide for the dismissal of Hillview’s petition for chapter 9 municipal bankruptcy.

As part of the negotiations, the city intends to raise revenues and issue debt to resolve the claims emanating from a portion of the $15 million judgment owed to Truck America—an award which had been growing by $3,759.54 a day in interest, and which had initially triggered the city’s filing for chapter 9 last August. Under the proposed agreement, Hillview will make an up-front payment of $5 million from the proceeds of issuing new debt, and to channel approximately 8.3% of its general fund revenue to Truck America for the next two decades. The settlement also calls for Hillview to raise its occupational tax to 1.8% from the current rate of 1.5%, increase its insurance premium tax to 7% from 5%, which is collected on insured property and people within the city limits, according to the settlement. Hillview’s debt to Truck America of $15.23 million was based upon a court-ordered judgment it lost over a soured legal dispute involving a contract to purchase city land. The city lost that dispute in court, and has since transferred ownership of the property to the company, but until now had not come to terms over the monetary award—instead, hoping to absolve itself through filing for municipal bankruptcy. After ten years, Hillview can opt to take a discounted buyout option under a formula outlined under the settlement. Any violation of settlement terms constitutes a default, according to court filings. A resolution to the dispute will actually begin in Bullitt County Circuit Court where Truck America had filed a writ of mandamus to enforce the terms of the judgment. The lower court case was automatically stayed when Hillview filed for Chapter 9 bankruptcy on Aug. 20. A decision as to whether Hillview is insolvent, and eligible to continue its case, is still pending. At Thursday’s hearing, Hillview and Truck America will ask Stout to lift the stay so they can file the settlement in the circuit court. After the settlement is filed, Hillview is expected to dismiss the bankruptcy case. The mediators in the case were retired U.S. Bankruptcy Judge Steven Rhodes, who presided in Detroit’s Chapter 9 case; local attorney Walter A. Sholar; and Thomas Fulton, chief judge for the Bankruptcy Court in the Western District of Kentucky.

Unlike in Hillview, the odds of an agreement in Atlantic City as it nears an historic suspension of governmental services appear low: despite calls from any number of New Jersey Assembly members for Gov. Chris Christie to compromise on a state takeover bill and use tools at his disposal to help the East Coast gambling hub avoid default. Gov. Christie, who last week stated he will not support changes to Senate-passed “The Municipal Stabilization and Recovery Act,” which would empower New Jersey’s Local Finance Board to renegotiate outstanding debt and municipal contracts for up to five years, also said he will not sign a companion bill which would enable Atlantic City’s eight remaining casinos to make payments in lieu of taxes for 10 years, including $30 million collectively in 2016 without the state intervention. He noted that Assembly Majority Leader Louis Greenwald (D-Vorhees Township) had canvassed his caucus and determined there were enough votes to pass both bills…leading Assemblywoman Marlene Caride (D-Ridgefield) to observe: “The Speaker has, time and time again, expressed his willingness to sit down and work out a compromise that protects the city and public workers, but his calls for responsible and fair negotiations have fallen on deaf ears…To oppose any dialogue with the Assembly given what’s at stake is irresponsible.” Assemblywoman Valerie Vainieri (D- Englewood), added: “The Governor would have everyone believe that the only way to save Atlantic City from insolvency is to trample public workers, step residents of their right to a representative government and sell off city assets, perhaps irrevocably…I commend Speaker Prieto for taking a measured and thoughtful approach to the situation and standing up against tremendous pressure while the Governor refuses to negotiate in good faith with one half of the state legislature.” Absent some quick resolution, Atlantic City is projected to both cease non-essential governmental services and default on its debt as early as next month. The City has an estimated $102 million deficit for 2016, according to Moody’s. The city budgeted $33.5 million last September in redirected casino taxes from a PILOT bill—but a bill Gov. Christie conditionally vetoed last November.

February 18, 2016. Share on Twitter

Schooling on Municipal Bankruptcy. Michigan House Speaker Kevin Cotter (R-Mt. Pleasant) yesterday told his colleagues that a municipal bankruptcy reorganization of Detroit Public Schools (DPS) “must remain on the table” if lawmakers are unwilling to impose “serious academic and financial reforms” on the troubled school district, noting that a state Senate plan to codify Gov. Rick Snyder’s $715 million request to help DPS escape crippling debt and funnel more money into classrooms is inadequate to address systemic issues in the district, adding: “I am interested, and my caucus is interested, in being problem solvers…But we’re not going to be problem enablers. Just simply cutting a check for $715 million and returning control, I believe, is only enabling the problem.” The Speaker’s statements came as Michigan House Republicans this week introduced a new Detroit school plan—a proposed plan which would implement various academic reforms in the district, including an A-F grading system for individual schools and a third-grade reading initiative that would require the district to hold back struggling students—a plan which, nevertheless, immediately drew ridicule from both Detroit Democrats and unions. The proposal would also limit collective bargaining rights for district employees, penalize teachers who participate in “sickouts,” and put new teachers into a 401(k)-style retirement plan. The proposed plan also seeks school board elections next November—a contrast to Detroit Mayor Mike Duggan’s plan, which seeks an even faster transition, while the pending plan in the Michigan House would not restore a fully elected school board for at least eight years. Nevertheless, the legislative task of reconfiguring Detroit’s fiscally and physically failing schools is encountering its own obstacles in the state legislature, with Senate Majority Leader Arlan Meekhof (R-West Olive) yesterday noting that the House package is unlikely to help ongoing negotiations in the Senate, where majority Republicans are trying to win over reluctant Democrats, especially members from Detroit. Sen. Goeff Hansen (R-Hart) is sponsoring legislation to create a new debt-free Detroit school district—telling his colleagues yesterday that he is focused on getting bills passed that fix the school district’s finances before tackling academic reforms.

The more than academic problem is the clock, which is ticking towards a municipal bankruptcy of DPS as early as April Fool’s Day. Indeed, yesterday, retired U.S. Bankruptcy Judge Steven Rhodes, who presided over Detroit’s chapter 9 municipal bankruptcy trial and has been serving as a special advisor to Governor Snyder on DPS’s looming insolvency, has warned lawmakers against allowing the district to go through a Chapter 9 reorganization. The Michigan Treasury Department has estimated a Detroit school district bankruptcy could leave the state on the hook for at least $1.5 billion of debt the district owes creditors, including the state’s own school employee pension fund.

With just weeks to reach consensus, the Speaker yesterday warned that Democrats in both chambers had spoken out against the Senate bills last month upon introduction, warning: “That tells me there probably isn’t a sweet spot in this one for a bipartisan plan…“I haven’t closed the door to it, but for Republican support, there are going to have to be some pretty serious reforms.” Speaker Cotter yesterday acknowledged that a DPS municipal bankruptcy would trigger significant state fiscal costs—more than a bailout, but he noted he was unwilling to put $715 million of additional taxpayer money into what he called a failed system: “To the extent that people want to hold out just for money and the return of control, I am perfectly comfortable keeping the option of bankruptcy on the table.”

Spinning the Debt Wheel in Atlantic City: “The city’s fiscal crisis is severe and immediate.” A new Atlantic City rescue bill, the “Municipal Stabilization and Recovery Act,” would give the State of New Jersey increased authority over Atlantic City’s finances as part of an effort to avoid the city going into chapter 9 municipal bankruptcy: the proposed legislation would empower the state to renegotiate Atlantic City’s outstanding debt and municipal contracts for up to five years—with a goal of allowing Atlantic City to regain access to the municipal bond market while, at the same time, achieving cost savings through reorganized government operations, consolidating agencies and engaging in shared services. Under the proposal, the state would also have authority to leverage city assets to gain needed revenue—or, as State Senate President Steve Sweeney (D-Gloucester), who introduced the bill with Senators Kevin O’Toole (D-Wayne), and Paul Sarlo (D-Wood-Ridge) put it: “The intervention plan will enable the state and the city to work together to accomplish what Atlantic City can’t do on its own: “The city’s fiscal crisis is severe and immediate.” Under the proposed legislation, Atlantic City would have one year to find a way to monetize its water authority before the state could act to use the assets to generate needed funds; Atlantic City would retain its decision-making authority unless New Jersey’s Local Finance Board acted to take control. The increasing urgency—as in Michigan—comes in recognition that Atlantic City is at fiscal risk of insolvency by early April absent state assistance, according to a Jan. 21 report from former emergency manager Kevin Lavin: Atlantic City is behind on a payment it owes the Borgata casino on $170 million in tax appeals and missed a $62.5 million payment it owed last month. As Sen. Sarlo warned last month: “If the city is allowed to go into bankruptcy, all the decisions would be imposed by a [federal] bankruptcy judge…This plan gives the city and the state a voice and a role in making the decisions that will impact the lives of the residents and the future of Atlantic City. This is a far better process than [chapter 9 municipal] bankruptcy.” A companion bill was also introduced that would enable casinos to make payment in lieu of taxes payments in an effort to end costly tax appeals. Gov. Chris Christie had rejected a financial relief package last month that would have enabled Atlantic City’s eight remaining casinos to enter into a PILOT (payment in lieu of taxes) program for 15 years and aggregately pay $120 million annually in that period instead of a traditional property tax. The amended bill shortens the PILOT period from 15 years to 10 and also would require casinos make additional payments based on their share of total gaming revenue that would be used for paying down the city’s more than $400 million in outstanding debt.

Saving Puerto Rico. Puerto Rico Tuesday released a draft version of its FY2014 CAFR as part of an effort to enhance Congressional support to help the U.S. territory avert insolvency as early as the end of next month—and in response to repeated calls by members of U.S. House and Senate, as Congress, under pressure from House Speaker Paul Ryan (R-Wi.) is pressing for some legislative resolution by then. Puerto Rico Gov. Alejandro García Padilla yesterday noted that with the release, Congress has sufficient fiscal data, adding that “The Commonwealth has provided an unprecedented amount of reliable and up-to-date financial information regarding the depth and imminent nature of Puerto Rico’s debt crisis.” Nevertheless, a representative of KPMG said Puerto Rico’s audited CAFR was still six to seven weeks away. Swift action in providing the data matters: Senate Finance Committee Chair Orrin Hatch (R-Utah) noted: “It’s been a real challenge to obtain verifiable financial information from Puerto Rico…The territory has taken positive steps forward…I plan to review the unaudited statements in their entirety, but I also hope the government of Puerto Rico fulfills my request for detailed audited financial statements as well as information regarding the territory’s public pension plans and other budgeting issues. As any entity that borrows with federal tax preference understands, unaudited statements or reports from groups hired by the government, complete with disclaimers against assured accuracy, are no substitute for audited, verifiable information.” In presenting the draft CAFR, Gov. Padilla said, “the Commonwealth has reiterated the critical need for Congress to provide Puerto Rico with a broad restructuring framework to address its unsustainable debt burden. The risk of Congress not providing such framework – which costs nothing to U.S. taxpayers – is condemning Puerto Rico to a legal morass that will jeopardize essential services for U.S. citizens living in Puerto Rico, further accelerate out-migration to the U.S. mainland and severely impair creditors’ ability to recover on their claims.” The draft CAFR demonstrates a widening in the island’s net deficit position of the commonwealth’s “primary government” to $49.2 billion as of June 30, 2014 from $46.7 billion a year earlier. Its “governmental activities” net deficit position widened to $50 billion from $47.5 billion in the same period—or, as Puerto Rico Treasury Secretary Juan Zaragoza, in a statement accompanying the draft CAFR put it: “The Commonwealth currently faces a severe fiscal and liquidity crisis, the culmination of many years of significant governmental deficits, a prolonged economic recession (which commenced in 2006), high unemployment, population decline, and high levels of debt and pension obligations…If management is unable to complete [a debt] restructuring by the end of FY2016, or to otherwise obtain additional funding or other arrangements with its creditors, the commonwealth’s management expects that the commonwealth and various instrumentalities will be unable to comply with their scheduled debt obligations.”

The Downhill View of Municipal Bankruptcy from Hillview. Meanwhile, farther north in the little municipality (population under 9,000) of Hillview, Kentucky, a suburb of Louisville, and Truck America—under orders from U.S. Bankruptcy Judge Alan C. Stout—have agreed to participate in federally court-ordered mediation talks on Monday, albeit some portions of the process will be kept secret; they are also under orders from Judge Stout to produce a mediation statement in advance of the talks which will include each party’s position and may include settlement information that is inadmissible in court, according to bankruptcy attorney John Whitlock, with Locke Lord LLP. Hillview is the first municipality in Kentucky ever to file for chapter 9 municipal bankruptcy; the city filed its petition last August, claiming it was intended to halt the 12% interest compounding annually on an $11.4 million breach of contract judgment it owed to Truck America. (By the time the city filed, the award had grown to $14.7 million.) However, Truck America said in a letter to the U.S. Bankruptcy Court last month that the correct amount is in excess of $15.23 million due to a computational error in calculating the interest. In addition to its largest creditor, the city also owes a combined $2.02 million on a pool bond issued by the Kentucky Bond Corp., and on outstanding municipal general obligation bonds that officials have said they do not intend to restructure. An evidentiary hearing was held last month to determine if Hillview is even eligible or qualified to pursue its chapter 9 municipal bankruptcy: a ruling is pending.

The federal orders come in the wake of earlier failed settlement negotiations: the mediation statement is to incorporate the municipality’s and Truck America’s, and may include settlement information not admissible in federal court, according to bankruptcy attorney John Whitlock: that is, under prodding from Judge Stout, this is stout reinforcement of his efforts to avoid the significant costs that a chapter 9 bankruptcy trial in his courtroom could engender—especially in a case where there appears to be significant doubt with regard to the municipality’s eligibility—a legal determination yet to be resolved. Hillview and Truck America, Hillview’s largest creditor, participated in settlement discussions earlier this year while the city waited for Judge Stout to stoutly rule on whether it qualifies to continue with its municipal bankruptcy case; Truck America rejected a settlement offer made by Hillview and issued a counteroffer last month. The Hillview City Council held a special meeting two weeks ago and approved an offer to accept a $5 million loan from the Kentucky League of Cities as part of its most recent settlement offer, according to the Pioneer News. In addition, the News reported Hillview has agreed to pay Truck America at least $100,000 annually over five years, plus “any carryover funds at the end of the fiscal year.” Hillview also owes a combined $2.02 million on a pool bond issued by the Kentucky Bond Corp., and on outstanding general obligation bonds that officials have said they do not intend to restructure. An evidentiary hearing was held Dec. 9 and Dec. 10 with regard to whether Hillview is qualified to pursue its Chapter 9 bankruptcy case, and objections filed by Truck America. A ruling is pending.

Governance in BankruptcyEven though major municipal bankruptcy filings experienced a pause last year, the extraordinary Boston Federal Reserve study on long-term municipal fiscal sustainability and the reporting on the current apprehensions with regard to Chicago, the Detroit Public Schools, and Puerto Rico appears to have, as our admired friends at MMA describe it, caused “municipal investors to worry more about state and local governments’ long-term fiscal condition (and whether or not defaults and bankruptcies will become more common).” This seems to be imposing greater stress on municipal leaders: how does Atlantic City or the Detroit Public School System, or Flint, Michigan provide for fundamental public services and capital borrowing in a system with ever increasing fiscal disparities? MMA described the nub of the issue: “[T]he security pledges on which our market is based are appearing increasingly brittle.” With federal–and, increasingly, state elimination of revenue sharing, we are noting ever increasing disparities in income between jurisdictions. Unsurprisingly, the Flints and Fergusons of the nation are experiencing disproportionate levels of poverty and fiscal stress–even as federal and state investment is declining–meaning that their respective costs of debt and investment are disproportionately greater–even as they have less and less access to low cost, long-term infrastructure financing. MMA notes that the current response seems to have been to reinforce existing security pledges with benefits such as statutory liens, special revenue status, and other legal protections. But these run the risk of being more like a band aid than a resolution–and, as MMA insightfully notes: these types of responses ensure neither:

  • full payment of principal and interest; nor
  • that politics, public policy considerations, or inequitable adjustments will not influence outcomes in a distressed situation.

MMA points to the outcomes in Jefferson County, Detroit, as well as in the proposals for Puerto Rico’s restructuring, putting it this way: “In other words, investors cannot afford to trade away material credit fundamentals for purely structural enhancements, in particular for GO and tax-backed securities. The power of the statutory lien for GO bonds: The presence of a statutory lien means that, in a chapter 9, bondholders are secured by a lien that is itself preserved, bolstering ultimate recovery. As a result, they are more likely to be unimpaired than unsecured creditors to the extent that tax revenues are sufficient to make payment on the debt.” 

Options for Averting Municipal Bankruptcy

January 28, 2016. Share on Twitter

Flint’s Future. The U.S. Senate expects to consider bipartisan legislation today to address the unsafe water crisis in Flint as part of a bipartisan bill on energy policy—during which Sens. Gary Peters and Debbie Stabenow (D-Mi.) are expected to offer an amendment aimed at protecting the water supply in Flint. The underlying bill would update building codes to increase efficiency, strengthen electric grid safety standards, and promote development of an array of energy forms, from renewables such as solar and wind power, to natural gas, hydropower and even geothermal energy—and would accelerate federal approval of projects to export liquefied natural gas to Europe and Asia and reauthorize a half-billion dollar conservation fund to protect parks, public lands, historic sites, and battlefields. The Senate action comes as Sen. Minority Whip Dick Durbin (D-Ill.) said as many as 7,000 children have been “poisoned because of lack of proper government oversight” in Flint, with Senate Minority Leader Harry Reid (D-Nev.) adding that Michigan Gov. Rick Snyder had tried to “save a few bucks with the water and, in the process, poisoned lots of people.”

Sen. Reid added, however, that he thought the Senate should focus on other municipal water supplies beyond Flint, noting: “We have a lot of communities around this country who have lead pipes, and a very deteriorating water system.” The federal action comes as, in Lansing, the Michigan Legislature is poised today to approve $28 million in additional funding to address the lead contamination of Flint’s water—appropriations which would include funds for more bottled water and filters and services to monitor for developmental delays in young children, as well as help the city with unpaid water bills and cover testing, monitoring, and other costs—the second round of state funding allocated since the lead contamination was confirmed in the fall in the wake of a decision by state regulators two years ago to allow Flint to not treat water for corrosion after the city switched its supply in 2014—a decision with likely fatal consequences because of the ensuing leaching of lead from old pipes into Flint’s drinking water. The action today comes a day after Gov. Rick Snyder promised he would seek more funding for Flint in his upcoming budget proposal. It also comes a day after the Governor named a group of 17 medical and field experts, including a doctor and Virginia Tech Professor Marc Edwards, who helped expose the Flint water contamination crisis, to a committee charged with identifying long-term solutions.

Spinning the Dial for Municipal Bankruptcy. New Jersey’s top elected officials Tuesday announced an agreement with Atlantic City Mayor Donald Guardian to allow increased state intervention in an effort to keep the municipality out of bankruptcy—an agreement proposed by Gov. Christie and backed by the city’s elected leaders under which the state would provide additional layers of state oversight and new revenue sources. Gov. Christie introduced the plan accompanied by New Jersey Senate President Steve Sweeney and Atlantic City Mayor Don Guardian; the Atlantic City Council passed a resolution late on Tuesday to support the new proposal. The dynamic duo said the new legislation would give the state increased power over Atlantic City finances, including restructuring municipal debt, changing collective bargaining agreements, and selling off city-owned assets: it would provide a five-year state takeover compared to the 15 years Sen. Sweeney had proposed.

With the state already effectively under some state control due to the Governor’s imposition of an emergency manager, Tuesday’s actions imposed a more sweeping state takeover. Gov. Christie said he wants action by the end of next month by the state legislature to allow the state to restructure the city’s debt and terminate municipal contracts, including with labor unions. Under the proposal, the state would control the city for five years, with authority to allow the state to dissolve city departments, consolidate and privatize municipal services, and sell city assets—all proposals which had been included in a recent report by the city’s state-imposed emergency manager, Kevin Lavin.

In addition, under the Governor and Presidential candidate’s new proposal, the state would reconsider a version of legislation that the Governor last month vetoed, legislation intended to boost cash flow and stabilize Atlantic City’s tax base with fixed payments in lieu of property taxes from its famed casinos. Gov. Christie did not say whether the takeover proposal would address $153 million Atlantic City owes the Borgata casino in tax refunds. (Atlantic City last month missed a $62 million tax refund payment owed to the Borgata on Dec. 19.)

The Governor’s action—and muted support by Mayor Guardian and the Council—came just as the Mayor had called for an City Council emergency meeting to consider whether to file for municipal bankruptcy—a decision which would have required a two-thirds’ approval to seek such authority from New Jersey’s Local Finance Board, which oversees the city’s budget. Mayor Guardian told his colleagues he could see “no human] way” Atlantic City could pay the $160 million of casino property tax appeals it owes to the Borgata Casino Hotel & Spa.

Mike Cerra, assistant executive director of the New Jersey League of Municipalities, called the agreement “a positive development” since neither a municipal bankruptcy nor long-term state takeover would be beneficial to the local governments in the state; he said a municipal bankruptcy would have sent negative message to the municipal bond markets that New Jersey would allow a distressed municipality to reach that stage of insolvency, noting: “Nothing good comes out of a bankruptcy for a local government: Neither a bankruptcy or a full state takeover were desirable options.” New Jersey, where a municipality may only file for chapter 9 municipal bankruptcy with state permission, has only had one city, Camden, previously file (in 1999, but the case was subsequently dismissed). The state’s Division of Local Government Services has that authority, as well as the authority to approve budgets for distressed localities to ensure they can pay their debts.

My Old Kentucky Home. With municipal bankruptcy an increasingly hot topic amongst state and local leaders across the country—and in the U.S. Territory of Puerto Rico, Kentucky State Rep. Brad Montell (R-Shelbyville) might want to be among those considering what is happening in New Jersey, as he is asking whether Kentucky should reconsider its municipal fiscal assistance and municipal bankruptcy laws and programs. Until last August, no Bluegrass city had ever filed for chapter 9 municipal bankruptcy in the state; counties are not permitted to file; two municipal entities—utility districts—have previously filed. As part of the look-back, Rep. Montell is wondering whether Kentucky should develop a program—perhaps similar to New Jersey’s—to assist fiscally distressed municipalities, noting: “It seems to me we need to have sort of a blueprint of what authority the state government has in these instances.” U.S. Bankruptcy Judge Alan C. Stout is currently considering whether to allow Hillview, the Louisville suburb of 9,000 to proceed with its case—a case triggered by the municipality’s loss and consequent $11.4 million legal judgment after losing a lawsuit to Truck America Training. House Concurrent Resolution 13, filed by Rep. Montell, said defaults and municipal bankruptcies in Alabama, California, Pennsylvania, and Rhode Island have increased awareness of municipal bankruptcy: his proposal would direct the Kentucky Legislative Research Commission to conduct a study of municipal bankruptcy, including laws, and prevention practices employed by other states.

Today, more than half of the states and the District of Columbia have implemented municipal debt supervision or restructuring mechanisms to assist municipalities: creating programs to offer assistance, refinancing, oversight, and other mechanisms to avoid default. Such state programs, moreover, appear to have been exceptionally successful in avoiding defaults or bankruptcies: municipal bankruptcy ace James Spiotto, with whom the National League of Cities worked for over a decade to secure Congressional approval and former President Reagan’s signing of municipal bankruptcy legislation, testified last month before the U.S. Senate Judiciary Committee that such state “second looks” appear to have been effective by a six-one margin in avoiding Chapter 9 bankruptcy in the 24 states which authorize a city, county, or other municipal entity to file.

Rep. Montell’s proposed study would include a review of other state laws, and the practices that they have employed in order to intervene in a city or county financial crisis, or, as he put it: “We just want to get some answers, and see how other states have handled this in case we need to take action next session.” His resolution also cites the possibility of credit rating downgrades for the entire state due to the unhealthy financial health of its governments, as another reason to study Chapter 9 further, adding that Kentucky should look at its bankruptcy law, because the budgets of cities, counties, and school districts could realize growing fiscal challenges due to their mandated costs to participate in state-run pension plans, along with other stressors such as labor costs, noting: “We want to get our financial house in order and I’m confident we will…That’s one reason we want to be on top of [the bankruptcy law] as well.”

In his testimony last month, Mr. Spiotto testified that effective programs aimed at avoiding municipal financial distress and bankruptcy have been “well demonstrated” by the Municipal Assistance Corporation for New York City in 1975, the Pennsylvania Intergovernmental Cooperation Authority for Philadelphia in 1991, and the District of Columbia Financial Responsibility and Management Assistance Authority for Washington, D.C. in 1995—adding that the states of Florida, Indiana, Michigan, Nevada, New Jersey, New York, North Carolina, Pennsylvania, and Rhode Island include a variation on a provision allowing for the appointment of a financial control board or commission, emergency managers, receivers, coordinators, or overseers for troubled local governments. Thus, unsurprisingly, the Kentucky League of Cities has said it supports Rep. Montell’s resolution, which could lead the state to institute an emergency assistance program.

On the Edge of Municipal Bankruptcy

January 21, 2016. Share on Twitter

On the Edge of Municipal Bankruptcy. In the wake of Gov. Chris Christie’s veto of bipartisan legislation that would have helped the city by the sea revive its tax revenues and cash flow, the city, instead, is facing default—a position under which, if the Local Finance Board of the New Jersey Department of Community Affairs determines that a triggering event has occurred, Atlantic City would be placed under the board’s supervision—which would, in turn, enable the city to file a petition for chapter 9 municipal bankruptcy. Atlantic City Mayor Don Guardian City Council President Marty Small are planning an emergency city meeting next week to consider filing for bankruptcy, a motion which must be approved by the state, with Mayor Guardian noting: “If the state is not able to come up with the funding we need within the next few weeks, we will have no choice but to declare bankruptcy.”

The legislation aid package, worth $33.5 million for Atlantic City, was first passed by state lawmakers last June: it included measures to stabilize the municipality’s property tax base and establish fixed payments for tax appeals. After months of delay, Gov. Christie vetoed the bill, and he asked for certain changes. When the legislature, in a bipartisan effort, incorporated the Gov.’s proposed changes and re-passed the bill, Gov. Christie this week vetoed it again—virtually forcing the city into municipal bankruptcy. Should Atlantic City file for municipal bankruptcy, as appears nearly certain to be the case, it will mark only the second time a city has so filed: Camden filed in 1999; however, its case was subsequently dismissed.

In vetoing the key measure, Gov. Christie’s spokesperson stated: “Atlantic City government has been given over five years and two city administrations to deal with its structural budget issues and excessive spending…It has not. The governor is not going to ask the taxpayers to continue to be enablers in this waste and abuse.” Without the legislation, Atlantic City could be in default by April.

Mayor Guardian stated; “We’re shocked that the governor, who presented us with his bill, reneged on the funding,” and Assemblyman Vince Mazzeo (D-Atlantic City) said that the Governor’s vetoes demonstrated a “brazen disregard” for Atlantic City’s fiscal recovery. Nevertheless, the city, which already is in a unique position of dual governance—with both a state-appointed emergency manager as well as a Mayor and Council—appears to have no support at the state level: New Jersey State Senate President, Democrat Steve Sweeney, initially supported the aid package, but no longer does; instead he supports a state takeover of the city’s operations, a move strongly opposed by Mayor Guardian. Sen. Sweeney said: “We cannot afford to let Atlantic City go bankrupt…The best way out is for the State of New Jersey to take control of Atlantic City’s finances and the best way to do it is to act quickly.”

It is unclear exactly how what Sen. Sweeney is proposing would differ from the current role the state is playing in Atlantic City’s oversight through its appointment of emergency manager Kevin Lavin nearly a year after he was appointed by Gov. Christie to find ways to fix the dire state of Atlantic City’s fiscal condition. Indeed, Mr. Lavin released a final report late Friday which stops short of recommending that the city file for municipal bankruptcy—instead suggesting massive spending cuts, as well as consolidating and privatizing some parts of the local government. Ergo, Mr. Lavin said he supported efforts in the state Legislature that are currently underway to help Atlantic City — albeit, he was not specific with regard to the recently unveiled plan by state Senate President Stephen Sweeney calling for the state to take over Atlantic City’s finances. Mr. Lavin’s report, released a year after his appointment by the Governor to the $135,000-a-year job and more than six months after it was due, was posted on the New Jersey Department of Community Affairs website around 5 p.m. Friday.

For his part, the beleaguered Mayor Guardian said in a statement late Tuesday that the municipal bankruptcy option is “now back on the table” in the wake of Gov. Christie’s veto of state legislature’s package which would have enabled the city’s eight remaining casinos to enter into a payment-in-lieu of taxes (PILOT) program for 15 years and aggregately pay $120 million annually over 15 years instead of a traditional property tax. The city’s adopted FY2015 budget relied on some $33.5 million in anticipated revenues from redirected casino taxes included in the rescue bills to address a $101 million deficit. In his statement, Mayor Guardian warned that: “if the State is not able to come up with the funding we need within the next few weeks, we will have no choice but to declare bankruptcy…The signing of the PILOT bill would have saved us from looking at that, but unfortunately, the Governor did not sign the bill so we have to think realistically. The next few weeks will be very interesting.” That package, which would also have reallocated the state’s casino alternative tax to pay debt service on Atlantic City-issued municipal bonds, would have, in addition, given the city a chance to receive $60 million in funding directed to the city’s marketing arm, the Atlantic City Alliance for 2015 and 2016 had the legislation been signed by Tuesday’s high noon deadline.

The beleaguered Mayor Guardian also took aim at Sen. President Sweeney’s proposed state takeover of Atlantic City operations: “We will not tolerate the stripping of our God-given civil rights and right to self-governance…Atlantic City has worked too hard and has come too far to let that happen,” adding, in a statement, yesterday, that municipal bankruptcy is not the right course for Atlantic City, noting that, in the Garden State, only the state has power to declare bankruptcy and that doing so would have “disastrous results” and hurt the financial standing of other New Jersey municipalities.

EM’s Report. In his second, and almost certainly final report, Atlantic City Emergency Manager Kevin Lavin, whose contract with the state is scheduled to expire tomorrow, urged the consolidation and privatization of municipal services and massive spending cuts, but stopped short of recommending chapter 9 municipal bankruptcy. Mr. Lavin wrote that the city would run out of cash by April if New Jersey Gov. Chris Christie did not—as he did not—sign the package of rescue bills passed by the State Legislature. Mr. Lavin, in his final report, recommended regionalizing Atlantic City’s police force with neighboring municipalities and privatizing its fire department, noting that that these two departments, alone, comprise 69 percent of the city’s budget for salaries and wages. Mr. Lavin also recommended privatizing the Boardwalk Hall sports arena and the Atlantic City Convention Center, noting that these two properties operate at a combined loss of $15 million to $20 million annually with $75 million currently reserved for “substantial capital expenditures,” and adding that Atlantic City’s Municipal Utilities Authority has “significant assets” that present opportunities to increase revenue; he recommended dissolving the water authority and restructuring it to better benefit Atlantic City.

In his report, Mr. Lavin gave credit to Mayor Guardian and Atlantic City officials for the way in which they took on the city’s $101 million deficit in crafting their FY2015 budget, but he noted the overwhelming $190 million plus of casino tax appeals and other non-bond debt the city now faces, noting that the city’s ability to raise public funds to repay the non-bond debt is “highly unlikely” due in large part to an inability to quality for adequate Qualified Bond Act financing, according to the report. Atlantic City’s credit ratings have dropped to junk status. As Mr. Lavin noted: “As this report shows, over the past year we have accomplished much by working together with all stakeholders, and successfully kept the City from falling into fiscal ruin, including taking on a $100 million budget deficit that ballooned by nearly 20% in the course of the year…Atlantic City had been losing yardage for years, but we began to move the ball down the field. Unfortunately, our momentum has been stalled by parochial politics that continue to inhibit progress.”

For his part, Senate President Sweeney issued a statement after the Lavin report’s release emphasizing the need for state involvement to avoid bankruptcy: “New Jersey taxpayers cannot afford to let this crisis continue and that is why our takeover bill must be acted upon promptly…We can avoid bankruptcy, but only if we act now.”

Frustration. With the multiple, but conflicting state roles—between the state-appointed emergency manager, peripatetic Presidential candidate Chris Christie, and state legislative leaders—all sending conflicting, as opposed to constructive messages, one could sense the growing frustration in the city: as Mayor Guardian put it; “We have already made definitive progress within the confines of all the options made available to us…“So why have the plans not worked out in the time since I have been elected?” Ticking off the multiple and oft conflicting state oversight roles, including the past five years under a state monitor, with emergency manager Kevin Lavin added to the mix last year and a Local Finance Board that must approve the city’s budgets, Mayor Guardian said even a paperclip could not be mismanaged without review, noting: “The wake-up call to those above us is that this simple one-step answer to the problems that have been created over 35 years does not exist, and more to the point, we can certainly not fix everything in just two short years.”

A City Perspective: Atlantic City Council President Frank Gilliam, in an op ed yesterday, wrote:

The behavior of the New Jersey state government toward Atlantic City in recent days can be compared to that of a mugger — a robber who takes his victim’s money, demands his jewelry, and then threatens to shoot him for not having enough money.

Let me explain. While it’s without doubt that Atlantic City faces difficult financial circumstances, much of the difficulty is caused by the state. For decades, the state and its agencies have treated Atlantic City as their own bank, taking more than $1 billion.
It currently takes, through the Casino Reinvestment Development Authority (CRDA), more than $55 million each year:
• $26.6 million in sales and luxury taxes
• $20.5 million in parking fees
• $9.25 million in hotel room taxes

When Atlantic City occupied space as the unique gaming destination on the East Coast, this was tolerable. But as the state acknowledges, Atlantic City is no longer unique. The city must change to face this reality. But the state must also face this reality. It needs to allow Atlantic City to keep the revenue generated in Atlantic City. This alone will allow the city to finance city services.
The threat of takeover by the state because of city finances is a cynical ploy. The state has set up Atlantic City to fail, so that it can be plundered by outsiders. The reality is that the state is seeking to take away the constitutional rights of the residents of Atlantic City to choose their own leaders.

The state has had control of all hiring, firing, and contracts let by the city for several years through its appointed monitor

Again, let me explain.

Legislation passed last week that would allow for casinos in North Jersey would further reduce revenue to Atlantic City and increase competition. It’s a double whammy for Atlantic City:

The legislation creates $50 million in payments from the casinos, but the recipients are the Atlantic County government and city schools. No payment comes to the city. All payments from northern casinos would go to another CRDA-like state agency.

The state is seeking to reduce revenue to the city in a cynical manner to attempt a takeover. If revenue falls below 50 percent of expenses locally, the state has used that as an excuse for takeover. Witness Camden City.

For these reasons, those who know the city best have opposed the recent state moves. Republican Mayor Don Guardian calls the takeover threat “our Pearl Harbor.” Democratic state Sen. Jim Whelan, a former Atlantic City mayor, also opposes a takeover.

As (Sen.) Whelan points out, the state has had control of Atlantic City’s tourism district for nearly five years. During that time, four casinos have closed and convention bookings are down.

But it’s not enough that the state has taken our money. It now wants our assets, including the Municipal Utilities Authority. These are wrong moves and the state’s own monitor and the Department of Community Affairs has said so.
The state is one of the biggest offenders of owning assets that contribute nothing to Atlantic City. The CRDA owns 675 properties that pay no taxes. The state could sell these assets, get them back on the tax rolls, and help generate additional revenue for Atlantic City.

One of the most distressing thoughts related to a state takeover is the potential disenfranchisement of voters. It would be unfair, undemocratic, and un-American for the state to deny Atlantic City voters their constitutional right to choose their own government, a mayor and city council with real authority.

Atlantic City is vastly diverse, and to deny any voter his or her right would be wrong. But it would be particularly hurtful to deny African Americans, the largest group of residents in Atlantic City, the full value of their votes.

The best course of action for the state is recognize Atlantic City no longer occupies a unique place in the gaming market, but is still unique in New Jersey. The state should allow Atlantic City to keep the revenue generated there and let those who know the city best — its locally elected officials — the freedom to determine the city’s future.
What About the Future? Children are cities’ futures, so it is understandable that Detroit Mayor Mike Duggan is trying to change not only the math of the system’s failing fisc, but also the failed governance of a system currently under a state-imposed emergency manager. With black mold climbing the interior walls of some classrooms, and free ranging, non-laboratory rats occupying classrooms, the arithmetic of the schools’ finance merit an F: Of the $7,450-per-pupil grant the school district will receive this year, $4,400 will be spent on debt servicing and benefits for retired teachers, according to the Citizens Research Council. Absent a turnaround, the failing school system is hardly likely to spur young families to move into Detroit.

Air Force One. President Barack Obama visited—but did not attend school in—Detroit yesterday to witness the city’s iconic—and federally bailed out auto industry; yet today marks still another sick out for the teachers of Detroit Public Schools (DPS)—where state-appointed DPS Emergency Manager Darnell Earley has filed for a temporary injunction to keep teachers in the classroom. Rather than learning from the city’s bankruptcy, the next round in the deteriorating school system will likely play out in the court room, where DPS is seeking a temporary injunction as a remedy to the sick-outs which shut down about 88 schools yesterday, alleging the sickouts are “depriving students of their right to attend school, adversely impacting their academic progress, and forcing parents to miss work.” Detroit’s teachers are leaving the district, class sizes are swelling, and the conditions in many school buildings are deplorable. State-appointed DPS Emergency Manager Darnell Earley yesterday warned that the sickouts are not the way do it: “Closing schools for reasons such as today and on previous dates further jeopardizes the limited resources the district has available to educate its students and address the many challenges it faces. We have heard teachers’ concerns and identified short and long-term solutions to several key issues.”

Bluegrass Blues. Kentucky State Representative Brad Montell (R-Shelbyville) has proposed reconsideration of Kentucky’s municipal restructuring law (Kentucky Rev, Statute §66.400), as well as whether the state should develop a program to assist financially struggling local governments, noting: “In looking at our statutes, we simply don’t address it…It seems to me we need to have sort of a blueprint of what authority the state government has in these instances.” In fact, Hillview, a Louisville suburb of just over 8,000, became Kentucky’s first municipality to file a Chapter 9 municipal bankruptcy petition last August, in an effort to address an $11.4 million legal judgment after losing a lawsuit to Truck America Training—a filing which U.S. Bankruptcy Judge Alan C. Stout is currently considering. Previously, two Kentucky utility districts had filed chapter 9 petitions. Rep. Montell has proposed House Concurrent Resolution 13, which proposes that the state’s Legislative Research Commission conduct a study of municipal bankruptcy, including laws and preventative practices employed by other states. For a municipality to be eligible to file for chapter 9 municipal bankruptcy, it must be authorized by the respective state. Currently, twelve states specifically authorize municipal bankruptcies, while twelve states authorize the filing of a petition with conditions. In those states which have acted, as is required under federal law, for a city to be eligible, such state laws have implemented programs to provide assistance, refinancing, oversight, and other mechanisms, giving local governments a “second look” at ways to avoid taking the final, last-resort option. Municipal bankruptcy wizard Jim Spiotto last December testified before the U.S. Senate that, over the last 40 years, those municipalities with no state “second look” or oversight have been over six times more likely to file for municipal. In the Bluegrass State, any taxing agency or instrumentality can file for municipal bankruptcy, but Kentucky counties are prohibited from filing a petition unless their restructuring plans first are approved by the state local debt officer and the state local finance officer—a provision which does not apply to cities or any entity other than counties. Rep. Montell said he proposed the bill in an effort to be “proactive” in the event of filings other than Hillview’s: the proposed study would include a review of other state laws, and the practices that they have employed in order to intervene in a city or county financial crisis, but it also cites apprehensions with regard to the financial health of its governments, as another reason to study Chapter 9 further—especially the state’s pension liabilities: In a report last week, Moody’s listed the worst performing states in terms of making their actuarially determined contribution in FY2014: New Jersey (18.6%), California (48.2%), Texas (62.9%), New York (64.4%), Kentucky (64.5%), and Virginia (69.3%)—making Kentucky the state with the second-lowest pension funding ratio of any state behind Illinois, and the third worst if Puerto Rico were included, according to Atlanta-based Asset Preservation Advisors. Rep. Montell said the state should look at its current municipal bankruptcy statute, because the budgets of cities, counties, and school districts also could be pressured because of their costs to participate in state-run pension plans, along with other stressors such as labor costs.

Puerto Rico. U.S. Treasury Secretary Jacob Lew yesterday met with Puerto Rico Governor García Padilla in San Juan, stating: “I have tried to be very clear that restructuring and oversight have to move together, but that oversight has to be done in a way that is respectful of Puerto Rico’s system of self-government…There are no alternatives to Congressional action in terms of coming up with a solution that is lasting and that provides the avoidance of a long protracted period of pain on the island.” In addition, Secretary Lew met with a group of officials, including Puerto Rico Senate Pres. Eduardo Bhatia Gautier, House President Jaime Perelló Borrás, Senate Minority Leader Larry Seilhamer Rodríguez and House Minority Leader Jenniffer González Colón—as well as Puerto Rico’s non-voting member of Congress, Delegate Pedro Pierluisi, who said in a statement: “With respect to a possible fiscal oversight board, I insisted that I would only support such a measure if it were paired with more equitable treatment under federal programs and a mechanism that enables Puerto Rico to restructure debt in a way that is fair to creditors and that enables Puerto Rico to provide essential services to our people. The board should have the power to oversee the Puerto Rico government’s budgeting and fiscal practices, but the board must respect our constitution.” Delegate Pierluisi is running in the New Progressive Party primary to become its candidate for Governor against Ricardo Rosselló Nevares—who, earlier this week, wrote to Secretary Lew that the Padilla administration’s “focus on debt restructuring is a distraction from the urgent need to reduce government expenditures and restore economic growth.”

Exiting Municipal Bankruptcy Does Not Necessarily End a Municipality’s Fiscal Challenges

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March 3, 2015
Visit the project blog: The Municipal Sustainability Project

Sewer & Suer Rats. In a federal filing on which U.S. District Judge Abdul Kallon has scheduled trial to commence this July, the Securities and Exchange Commission (SEC) has filed a motion for summary judgment in its securities fraud case against two former JPMorgan bankers who were involved in Jefferson County’s more than $3.2 billion in sewer deals and swaps, [SEC v. Charles LeCroy & Douglas MacFaddin], writing that its case proves that Messieurs LeCroy and MacFaddin violated the securities act by failing to disclose payments to others who did no work on swaps between the county and JPMorgan―swaps which imposed higher fees on Jefferson County, and imposed higher rates on Jefferson County sewer system customers. The SEC wrote that Messiers LeCroy and MacFaddin also failed to disclose information about payments that would have been material to bond investors―even if the payments did not increase the county’s costs: “Any reasonable investor would have wanted to know that bonds in which he or she was investing were being offered by an underwriter who had procured the county’s business through a corrupt process of paying off friends and associates of [county] commissioners.” The swaps at issue were a key driver that forced what was, at the time, the largest municipal bankruptcy in U.S. history.

Will Hillview Have to Bite the Bullitt? S&P has downgraded Hillview, a 4th-class city in Bullitt County, Kentucky, with a population of approximately 8,172, from A- four notches to BB-plus, with S&P credit analyst Scott Nees noting: “The downgrade to ‘BB+’ reflects, in part, our view of the going concern opinion in the fiscal 2014 audit, in which the city’s auditor expressed doubts regarding Hillview’s ability to continue as a going concern.” Mr. Nees wrote that the circumstances reflect the unsuccessful appeal of a legal judgment where a jury determined that Hillview was in breach of contract (the breach involved a land purchase contract with a local trucking school, with damages of $11.4 million assessed against the city). Subsequently, a year ago, the state of Kentucky Court of Appeals delivered a decision affirming the Bullitt County Circuit Court’s prior decision dating back to 2012 that the city breached a land purchase contract with a local trucking school. The $11.4 million is currently accumulating interest at 12% per year and is not covered by the city’s insurance policy, but it represents nearly 1,000% of the small city’s cash on hand of $960,713 at the end of its most recent fiscal year (June 30, 2014). Mr. Nees added: “The negative outlook reflects our view of the potential for the deterioration in credit quality that could accompany a court decision against the city, the auditor’s going concern opinion in the city’s most recent audit report, and management’s inability to articulate a plan should Hillview be required to pay the settlement.” If the Kentucky Supreme Court sides against the city, S&P notes any subsequent rating will depend largely on the city leadership’s response—a response which could involve a settlement through the issuance of long-term debt—or a filing for chapter 9 municipal bankruptcy protection—an option which S&P understands the city’s leaders are considering. Under Kentucky law (Ky.Rev.Stat.Ann. §66.400), any taxing instrumentality may file a petition for municipal bankruptcy.