By: Charlene Collazo
In In re City of Detroit[1], Bankruptcy Judge Steven Rhodes determined that the City of Detroit’s (“City”) plan of adjustment to cut their $18 billion debt to $7 billion was “reasonable, fair, and equitable”[2] and their exit-financing plan to pay this debt met the requirements of the federal bankruptcy code under Chapter 9.
On July 18, 2013, the City of Detroit filed for Chapter 9 bankruptcy, which provides protection to a “financially-distressed municipality” from creditors while they form a plan to adjust its debts.[3] The declaration of bankruptcy resulted from a 60-year economic decline that affected the city’s industry.[4] City hall was strapped for cash as residents relocated and tax revenues decreased. As a result, the emergency financial manager appointed by the State to fix the city’s financial struggles saw no other way out but to declare. What would be mostly contended by the bankruptcy was the undeniable reduction of retirement pensions for city employees, including police and fire fighters.
On December 3, 2013, Judge Rhodes ruled that the city met all of its three conditions for bankruptcy: first, it proved that the city was insolvent; second, the City did obtain the State’s approval for filing; and third, the City did negotiate with creditors in good faith.[5]
The “cornerstone of the plan” noted as “The Grand Bargain” was the settlement of the City’s two pension plans – the General Retirement System (“GRS”) and the Police and Fire Retirement System (“PFRS”). The GRS pension payment would be reduced to 4.5% with no cost of living adjustment and the PFRS pension amount would not be reduced, but the cost of living adjustment would be reduced to 45%. Also, the City would be able to recoup excess interest paid to GRS employees that voluntarily contributed to a separate pension account. With the help of the State of Michigan, Detroit Institute of Arts, and charitable foundations, they will contribute $816 million over 20 years to assist the City with pension payouts. The Detroit Institute of Art contributed as a way to place its art in a trust and “prohibit[] the City from selling it to pay debts and place it beyond the creditor’s reach.”[6]
Other settlements included payment to bond insurers and bond repayments. The City would be responsible for $443 million of bond repayments for which $55 million would be paid through the City’s exit financing to the Limited Tax General Obligation Bonds. The bond insurers – Syncora and FGIC – would be paid $261 million combined with several land development agreements to offset the debt. The recovery was only 13% for each.
To approve the plan, the conditions of settlement would have to be settled in good faith under 11 U.S.C. § 1129(a)(3) along with taking into consideration the best interests of creditors under 11 U.S.C. § 943(b)(7) of Chapter 9, fees for services or expenses “in the case or incident to the plan” would be fully disclosed and reasonable under 11 U.S.C. § 943(b)(3), and it would be feasible under §943(b)(7).
Judge Rhodes determined that it would be “a vast understatement to say that the pension plan settlement is reasonable. It borders on the miraculous”[7] as all creditors agreed to it. As the biggest municipal bankruptcy case approved in history, the plan was not only executed in good faith, but most importantly, the plan would “be able to sustainably provide basic municipal services to the citizens of Detroit and to meet the obligations contemplated in the Plan without the significant probability of a default.”[8] Additionally, the plan will provide a reasonable expectation of repayment to creditors under the circumstances. As Judge Rhodes mentioned, “This is an extraordinary accomplishment in bankruptcy and an ideal model for future municipal debt restructurings.”[9]
[1] No. 13-53846, *1 (Bankr. E.D. Mich. Nov. 7, 2014).
[2] Id. at 1.
[3] U.S. Courts, Municipality Bankruptcy, https://www.uscourts.gov/FederalCourts/Bankruptcy/BankruptcyBasics/Chapter9.aspx (last visited Nov. 14, 2014).
[4] Daniel Howes, et al., Bankruptcy and Beyond for Detroit, The Detroit News (Nov. 13, 2014), https://www.detroitnews.com/longform/news/local/wayne-county/2014/11/13/detroit-bankruptcy-grand-bargain/18934921/.
[5] Karen Weise, Judge Rules That Detroit Is Eligible For Bankruptcy, BloombergBusinessweek (Dec. 3, 2013), https://www.businessweek.com/articles/2013-12-03/judge-rules-detroit-is-eligible-for-bankruptcy.
[6] No. 13-53846, *1, *3 (Bankr. E.D. Mich. Nov. 7, 2014
[7] Id. at *7.
[8] Id. at *41.
[9] Id. at *22.
