What Constitutes Fair & Equitable in Municipal Bankruptcy?

October 15, 2014

Visit the project blog: The Municipal Sustainability Project 

Is Detroit Contagious? Despite some apprehensions that Detroit’s bankruptcy might be contagious to other municipalities in Michigan, the Center for Local, State, and Urban Policy at the University of Michigan reports that an increasing percentage of municipalities (36%) report they are better able to meet their fiscal needs this year—and that improving fiscal health of municipalities is reported by jurisdictions of all sizes across the state. According to the report, this marks the first time in the Michigan Public Policy Survey’ studies that Michigan’s local governments have reported they are better able to meet their fiscal needs this year than the previous year. The report found the improvement to be broad—with improvement reported by jurisdictions of all sizes, with the exception, however, of municipalities with populations between 10,000 to 30,000, where less fiscal gains (42%) were reported than last year (48%). Overall, nearly 25% or 440 local governments reported declining fiscal health. The majority of municipalities reported two key areas of improvement: property tax revenues and state aid. Tom Ivacko, the Center’s Director and a co-author of the report, notes that the improvements constitute “a slow trend, [which] still leaves more than 400 jurisdictions here in fiscal decline.” This year’s survey does mark a continuing, overall improvement: from the surveys’ earlier years as Michigan’s 1,856 cities, townships and counties struggled with the effect of the national recession and the state’s grim recession. The study reported steep declines in local finances in 2009 and 2010, followed by a general trend of improvement through 2012—a trend which has continued, according to the report, but at a decelerating pace; nevertheless, the report found that for the first time since the report was initiated, more local governments have passed a “tipping point” of fiscal health, with 36% of jurisdictions saying they are better able to meet their fiscal needs this year compared to 24% who said they are less able to do so. According to the report, the municipalities reporting distress are:

  • more likely to have experienced cuts in property taxes and state and federal aid,
  • more likely to have taken on debt,
  • more likely to report growing employee health care costs and increased infrastructure needs,
  • a majority — 56% — are still facing falling property tax revenues.

According to the report, 36% are seeing an increase in property tax revenue, up from 8% in 2010. Another 38% of local governments said they continue to see a decrease, compared to 78% that saw decreasing property taxes in 2010. Part of the story of improving finances, according to the report, is the result of local governments reducing wages and services—leaving them less fiscally able to withstand another serious recession, but better equipped if the economy continues to improve.


A Final Bankruptcy Agreement? Detroit attorneys hope to present an agreement between the Motor City and its last remaining holdout creditor, FGIC, or the Financial Guaranty Insurance Co., tomorrow in court before U.S. Bankruptcy Judge Steven Rhodes. Thomas Cullen, a Jones Day attorney representing Detroit in its historic bankruptcy case, testified yesterday in court that the Motor City had a “firm and active faith” that such an agreement would be completed by then. Counselor Cullen’s testimony came in the wake of closed door sessions in New York City under the aegis of U.S. Judge Gerald Rosen, as FGIC attorney, Alfredo Perez, told the court that the NYC overseen negotiations had permitted the parties to “make a lot of progress.” Judge Rhodes then granted FGIC’s request to hold off on bringing in its witnesses until tomorrow. The status update before Judge Rhodes came as the parties prepare to call witnesses prior to the trial’s closing arguments, which are expected as early as next week. The NYC discussions have been with regard to addressing FGIC’s claim on some $1.1 billion, stemming from a disastrous pension deal backed by former—and now convicted and imprisoned―ex-Mayor Kwame Kilpatrick. The closed door, federally overseen private negotiations are intended to accelerate an end to the nation’s largest municipal bankruptcy. In response to the potential agreement, Judge Rhodes yesterday inquired if an agreement with FGIC would require “yet another round of projections,” to which Mr. Cullen responded no. The Detroit News reported last week that the city was considering leasing most of Detroit’s public parking facilities to bond insurers — including the Joe Louis Arena garage and one underneath the old Hudson’s site along Woodward — as part of these key settlement negotiations, under which FGIC could end up leasing three parking garages, receive riverfront land, and cash. FGIC could also sign an agreement to develop city-owned land. Under the emerging outlines of the potential settlement, FGIC would recover more than under the Motor City’s pending plan of debt adjustment before the federal court, but less than what rival bond insurer Syncora Guarantee Inc. received under its court-approved settlement last month. Syncora and FGIC were two of the largest holdout creditors that have been obstacles to Detroit’s emergence from municipal bankruptcy. The firms insured $1.4 billion in troubled pension debt which were key to the sordid deals under now-convicted former Mayor Kwame Kilpatrick’s reign that were used to prop up Detroit’s pension funds in 2005. Under Detroit’s pending plan of debt adjustment before the federal bankruptcy court, the Motor City has proposed paying FGIC as little as 6 cents on the dollar. Under the emerging settlement offer, FGIC could receive nearly 14 cents on the dollar, or a total of $400 million. In comparison, the plan proposes 46 cents on the dollar for Detroit’s retirees on their $3.1 billion claim. FGIC has argued before Judge Rhodes that the city’s proposed debt adjustment plan violates the U.S. Bankruptcy Code, because it proposes paying some creditors more than others (please note immediately below). If FGIC settles, Detroit’s last potential hurdle could come from a regional water district which is suing over a botched project and a handful of former city employees and residents who are not represented by lawyers.

Let the Hearings Continue.  With the closed door negotiations between Detroit and FGIC behind closed doors, Detroit’s historic bankruptcy case continued yesterday with Judge Rhodes taking testimony from others opposed to Detroit’s current proposed plan of debt adjustment. William Fornia, a pension consultant, challenged the claim under the city’s pending plan of adjustment that Detroit retirees would recover 60 percent or less of what they are owed, telling the court the city’s calculation flawed. Mr. Fornia testified pensioners are more likely to recover about 75 percent. According to FGIC and many of the city’s municipal bondholders, such a recovery for retirees should be rejected by the federal court, because of its significant inequity—with thee gross disproportionate recovery proposed of only about 11% for the city’s municipal bondholders versus  75% for its pensioners. Today the case, In re City of Detroit, 13-bk-53846, U.S. Bankruptcy Court, Eastern District of Michigan, is scheduled to resume with witnesses who oppose the Motor City’s pending plan of debt adjustment, but who are not represented by attorneys.


Conditional Approval. The New Jersey Local Finance Board officials has approved Newark Mayor Ras Baraka’s budget for this calendar year, although the director of the state’s local government-services division warned that the FY2015 fiscal gap may be as yawning as $60 million. The Board has ordered $1.3 million of cuts to benefits, salaries, and other expenses from the $815 million budget that the Newark City Council approved last week. The Local Finance Board’s unanimous vote was the last step needed for adoption of Newark’s budget—a key step in the wake of the $93 million deficit Mayor Baraka inherited when he took office last July―a gap which Finance Board Chairman Thomas Neff noted was the “largest structural imbalance—probably in the state,” adding that if there were no appreciation of the problem, the city would not take the necessary steps to act. The Local Finance Board, which oversees municipal finances in the state, voted last week to supervise Newark’s finances as a requirement of Mayor Baraka’s plan to spread out a $30 million deficit from 2013 over the next decade—a budget which now includes $10 million of state transitional aid. Most of the board’s cuts, $1 million, are for health care. The city has failed to collect higher benefit contributions since Governor

Chris Christie signed a 2011 law requiring public workers to pay as much as 35% of the cost of their premiums, up from a flat 1.5 percent of salary, according to Chairman Neff.

Not a Georgia Peach. A Georgia businessman accused of bribing former Detroit Mayor Kwame Kilpatrick and several Motor City pension fund officials accepted a plea agreement minutes before standing trial yesterday in federal court. Under the agreement, the businessman, Roy Dixon, will enter a guilty plea at 2 p.m. to conspiracy to commit honest services mail and wire fraud―the same federal statute under which former Virginia Governor Robert McDonnell and his wife were convicted earlier this year―a 20-year felony that also carries a $250,000 fine. Mr. Dixon was one of four people charged with looting Detroit’s pension funds along with former Mayor Kilpatrick’s fraternity brother Jeffrey Beasley and three others. Mr. Dixon was charged with embezzling more than $3 million with the help of former Detroit Lions wide receiver Mike Farr and spending some of the cash on an $8.5 million mansion in Atlanta, making him the third person to plead guilty to a federal crime in the corruption case and the latest during a years-long corruption probe that has, to date, netted 35 convictions. It was not immediately clear whether Mr. Dixon agreed as part of his deal with federal prosecutors to cooperate or if he will testify against his former co-defendants during a trial that will resume tomorrow. The other two guilty pleas in the pension fund case came from former City Council aide George Stanton and businessman Chauncey Mayfield, who are awaiting sentencing and expected to testify during the Mr. Beasley’s trial. The underlying accusation against Mr. Dixon had alleged that he paid bribes and kickbacks to former Mayor Kilpatrick, Mr. Beasley, three pension fund trustees, and a municipal official—with the charge that he paid the bribes to secure investment money from the pension funds, according to prosecutors—with the money for those investments made available in the wake of the former Mayor’s backing for a controversial Wall Street deal that started injecting $1.4 billion into the city’s pension funds in 2005. In 2006, months after the Detroit City Council approved that deal, Mr. Dixon formed the private-equity firm Onyx Capital Advisers, which was based in Detroit—with the new firm seeking to act as a private equity firm which would invest Motor City pension fund money in a real estate deal in the Turks and Caicos Islands and a Georgia company that sold automobiles to people with bad credit. That company, mayhap appropriately named Georgia-based Second Chance Motors, was owned by Mike Farr, a former NFL Detroit Lions player, whose father was ex-Lion Mel Farr Sr., the “superstar,” Detroit-area auto dealer who pitched cars in commercials while wearing a red cape and pretending to fly. By June 2007, the Detroit pension funds and one in the city of Pontiac had agreed to invest $25 million in Onyx. That was exactly one year after Detroit received the final infusion from Mr. Kilpatrick’s Wall Street deal. To secure the investment, prosecutors allege Mr. Dixon paid bribes and kickbacks to Messieurs Kilpatrick, Beasley, three other pension trustees, as well as others. In addition, Mr. Dixon and an unnamed business partner allegedly contributed $45,000 to Mr. Kilpatrick’s nonprofit, the Kilpatrick Civic Fund. In court documents, Mr. Dixon testified that Mr. Beasley and other pension officials extorted money and gifts from him — a claim likely to be repeated if he testifies during the trial. The indictment and a probe by the U.S. Securities and Exchange Commission (SEC) allege Mr. Dixon fueled a lavish lifestyle with money loaned on behalf of Detroit’s retirees. By 2008, Mr. Dixon was financing the construction of a stone mansion in Atlanta. The FBI and SEC analyzed bank and financial records and alleged that he arranged for Mr. Farr to pay three construction companies $521,000 in pension fund cash, according to prosecutors. The investment in the 2.5 acre plot was for a seven bedroom mansion with a mere ten bathrooms, a pool, and an exercise room, library, and four fireplaces—a former home, I should write, as it was headed for foreclosure last year. By the time of his indictment last year, federal prosecutors said the Detroit pension funds had lost the entire $20 million investment in Onyx; Pontiac’s public pension fund had lost $3.8 million. The current pension fund corruption trial is the first major public corruption case since former Mayor Kilpatrick was convicted and sentenced last year to 28 years in federal prison. This one which involves the Motor City’s former Treasurer and Mr. Kilpatrick’s former fraternity brother , as well three others who either worked for Detroit’s pension funds or received millions in pension loans. Meanwhile, Mr. Kilpatrick is an unindicted co-conspirator in a complex criminal case that will attempt to explain what happened to money from a $1.4 billion Wall Street deal blamed for helping plunge Detroit into bankruptcy, with federal prosecutors alleging the funds lined the former Mayor’s pockets in a federal trial that spans 2006 through April 2009 and alleges pension fund corruption cheated retirees out of more than $84 million. That amount must be considered in addition to the money-losing Wall Street deal Kilpatrick backed. Federal prosecutors allege city pension officials started approving a series of corrupt investments with businessmen in January 2006, six months after the Wall Street deal. Flush with cash, pension fund trustees loaned more than $200 million to businessmen accused of paying bribes and kickbacks, according to federal prosecutors. Kilpatrick is an unindicted co-conspirator because Beasley, 45, of Chicago, allegedly pressured people to contribute money to the ex-mayor’s nonprofit group in order to get pension fund loans. The defendants deny being influenced by perks that allegedly flowed during business dealings and trips to Las Vegas, England and the Caribbean. The four defendants are Beasley, Dixon and two former pension officials: trustee and former vice president of the Detroit Police Officers Association Paul Stewart and Ronald Zajac, 70, of Northville, former top lawyer for two municipal pension funds.