Tag Archives: Chapter 9

Gingrich, Jeb Bush among GOP leaders hawking state bankruptcy provision

By Mike Hinshaw

Shortly after we discussed Chapter 9 bankruptcies for cities (and other agencies) and the possibility of creating a Chapter 8 for states (or modifying Chapter 9),  the topic started to generate some real heat–enough so to prompt a letter to Congress against the idea from the National Governors Association.

What’s it mean to me?

You might ask, Why should I care what’s being proposed for states–or even about cities that already might have access to Chapter 9 provisions?

Well, fairness for one.

As it turns out, some in the GOP have adopted the idea, including widely known former legislator Newt Gingrich, who may be fanning the flames of 2012 presidential bid. Yet, for some background, it was a GOP-led Senate vote (51-45, with 12 Democrats crossing the aisle) that killed a so-called “cram down” measure in April 2009, after a similar proposal had passed the House 234-191.

At the time, many experts and industry observers said that allowing bankruptcy judges to modify the terms of residential loans would be the most efficient way to address the foreclosure crisis. The main argument against the “cram down” legislation was that it would drive up the costs of mortgage loans, despite expert refutation by Professor Adam J. Levitin. Here’s the nut of his argument: “If bankruptcy losses are less than foreclosure losses, the market will not price against bankruptcy modification.”

Levitin provided solid testimony to Congress, and he’s published well-documented studies on bankruptcy and mortgages, notably this one.

Gingrich indicates measure to be introduced soon

OK, back to the present. As seen in this Jan. 25 Reuter’s story, “Last week, former House Speaker Newt Gingrich, who remains a powerful figure in the Republican Party, told Reuters that legislation opening up a bankruptcy option would likely be introduced within a month.

“However, [House Majority Leader] Cantor (R-Va.) said on Monday that states already have ‘the requisite tools to address their fiscal ills.’

“Gingrich has been discussing the bankruptcy idea for months, drawing a flood of criticism from states, economists and investors in the $2.8 trillion municipal debt market.”

The possibility of a bond market ‘in havoc’

This excerpt from a Jan. 25 Washington Post story explains the chief objection–the threat to raising money via the bond market–and is a second reason to keep up with the issue, even if you’re more concerned about your own bankruptcy filing:

The idea of giving states that option has been raised publicly by Republican former House speaker Newt Gingrich and other conservative thinkers who see it as a way to allow states to escape crushing debt with little damage to taxpayers.

But the proposal has generated controversy. Some analysts say the move would wreak havoc on the municipal bond markets, long viewed as a safe investment haven where ordinary Americans can buy bonds without having to worry about a state government default.

States would have a harder time raising money if it were possible they could file for bankruptcy. The most indebted states could be shut out completely from the bond markets, which provide them the financing to pay for infrastructure projects and, in some cases, current expenses. Right now, because state governments cannot file for bankruptcy, they can borrow money at very low rates.

So really, it’s a two-fold question at this point in this logic: If it’s a good idea to amend the bankruptcy code such that states can declare bankruptcy if 1) it’s not a good idea to provide residential homeowners relief  on mortgage loans, even if 2) the bond market would be disrupted?

A ‘wedge issue’ to hammer at state pensions, unions

Another consideration, brought up Feb. 6 in an editorial in The New York Times as “Their Real Agenda,” namely dismantling state pensions and union contracts:

The latest pernicious idea, pushed by Newt Gingrich, Jeb Bush and several members of Congress, would allow the states to declare bankruptcy, for the principal purpose of tearing up union contracts and negating pension obligations.

It is true that many public employee unions have done well during a time of hardship for most Americans. The problem, though, isn’t the existence of those unions; it is the generous contracts willingly given to them by lawmakers because of their lobbying power and bloc-voting ability. In New York, unionized state employees have had a 14 percent raise over four years, and now make an average of nearly $67,000. Iowa’s state workers last year won a 6 percent raise over two years.

Dozens of states give pension and health benefits far more generous than in the private sector. Their costs have resulted in significant cutbacks to basic state services for the poor and middle class.

The editorial says some experts believe market disruption may already have taken place, simply because the topic of state bankruptcy has been brought up. At any rate, chalk up another reason to stay informed, especially if you’re a state employee or pensioner.

A Feb. 3 opinion piece in the Silicon Valley Mercury News offers similar perspective: “A state bankruptcy option is horrid policy for at least three reasons.

“First, babbling about facilitating bankruptcy for the states roils an already rattled government bond market. Second, the idea conflicts with conservative principles because it would erode state authority and worsen local government finances. Third, it is premised on misinformation about what ails states, although it resonates among conservative groups who are trying to exploit public employees as a wedge issue.”

Conservatives not united; plus, is it constitutional?

Other, plenty-conservative corners  have published against the idea, too, for example: Nicole Gelinas in The Boston Globe, Jan. 23;  E.J. McMahon, Wall Street Journal, Jan. 24; Gelinas, again, in the New York Post, Jan. 24.

Last but certainly not least, the whole thing may be unconstitutional. If so, do we really want to spend the time, energy and resources that would be necessary to amend the Constitution?

The great ‘Chapter 8’ debate: Should states be allowed to declare bankruptcy?

Continued from:

Part 2: Pennsylvania capital considers bankruptcy as California city seeks to emerge
Part 1: Cash-starved cities increasingly look to dangerous, rarely used Chapter 9

By Mike Hinshaw

In the preceding two installments, we looked at a rarely used provision of the U.S. bankruptcy code known as Chapter 9, which is unlike the two most commonly used types of personal (or “consumer”) bankruptcy protection, Chapters 7 and 13. The latter are designed to allow individuals the chance at a fresh start while minimizing damage to society.

Chapter 9 can be risky for the cities that use it, including city workers, various kinds of investors and municipal bond holders.

Professor fuels debate with proposal for ‘Chapter 8’

Despite those risks, assorted pundits and industry professionals have recently been discussing one law professor’s contention that creating a new provision in the bankruptcy code–suggested as Chapter 8–would allow states to declare bankruptcy and thereby avert another financial crisis.

Published in The Weekly Standard in November, law professor David Skeel says: “Anyone who proposed even a decade ago that a state should be permitted to file for bankruptcy would have been dismissed as crazy. But times have changed. As Arnold Schwarzenegger’s plea for $7 billion of federal assistance for California earlier this year made clear, the states are the next frontier in ‘too big to fail.’ In the topsy-turvy world we now inhabit, letting states file for bankruptcy to shed some of their obligations could save American taxpayers a great deal of money.”

States facing interest on federal loans

And make no mistake–despite any yarns coming off various gubernatorial spinning wheels, simply servicing the interest on federal loans is a big problem for many states.

As reported in a Jan. 15 piece in The New York Times:

As if states did not have enough on their plates getting their shaky finances in order, a new bill is coming due — from the federal government, which will charge them $1.3 billion in interest this fall on the billions they have borrowed from Washington to pay unemployment benefits during the downturn.

The interest cost, which has been looming in plain sight without attracting much attention, represents only a sliver of the huge deficits most states will have to grapple with this year. But it comes as states are already cutting services, laying off employees and raising taxes. And it heralds a larger reckoning that many states will have to face before long: what to do about the $41 billion they have borrowed from the federal government to help them pay benefits to millions of unemployed people, a debt that federal officials say could rise to $80 billion.

Certainly, most states are in trouble. In a Dec. 30 follow-up to her earlier series at CNBC called “States of Pain,” Nicole Lapin writes, “We’ve all seen the deficit numbers. Twenty-five billion for California. Fifteen billion for Illinois. Ten billion dollars for New Jersey.

“Meredith Whitney says we will all feel the states’ pain in the spring when federal stimulus money dries up.”

Have warnings been ingnored?

To be sure, some states were warned. A Jan. 16 article from the Austin bureau of the Houston Chronicle is headlined “Strayhorn finds vindication, but no joy, in shortfall,” pointing out in the subhed that the perennially re-elected Gov. “Perry rejected ex-comptroller’s budget warning in 2006”:

Comptroller Carole Keeton Strayhorn did not win friends five years ago when she warned Gov. Rick Perry and state lawmakers they were writing the “largest hot check in Texas history” during a tax overhaul that resulted in lower property taxes and a revised business tax.

Strayhorn told them their plan would fall about $23 billion short over a five-year period.

Now, five years later, state leaders are staring at an estimated budget shortfall of nearly $27 billion over the next two years.

According to this Fort Worth Star-Telegram editorial and this piece in D magazine, the vagaries of the state budget process don’t allow us to pinpoint the precise number: the deficit may be about $15 billion, or it may really be closer to $15 billion–depending on what actually gets counted.  That’s because, says D, “the Comptroller only estimates revenue. She cannot estimate what the Legislature will spend. (And she is probably a little gunshy on the revenue, since she overestimated by $4.2 billion for the current budget; her $15 billion shortfall may only be $13 billion.)

“The problem on the expense side is growth. One example, as cited by Senator Carona, is the increase in schoolchildren. Texas grew at roughly 2 percent a year during the last decade. Using the same rate of growth, we will have added some added some 2,300,000 new Texans by 2013. That’s more people requiring state services like the DMV, etc. Cut state agencies by 7 percent, as the governor has done, and you’ve effectively cut by 14 percent because not only are you serving few people but you’re also not serving all the new people either. In other words, Texas is far from keeping up with its growth.”

‘Almost every state’ in trouble

Rest assured: the same type of debate is going on in state legislatures from sea to shining sea. Despite the back-and-forth over actual figures, the bottom line is summarized in a Jan. 16 editorial in The New York Times: “Almost every state is in deep fiscal trouble this year, but only a few others have admitted that cutting spending will not be enough.”

In a Dec. 7 opinion blog for Reuters, Felix Salmon addresses the possible backlash of creating a Chapter 8 for state bankruptcies, in direct opposition to Professor Skeel:

Skeel doesn’t mention the single biggest problem with this idea. If it were implemented, or if it even looked like it might get implemented, prices of municipal bonds would plunge, and most states would find it pretty much impossible to borrow money. As such, facing a massive and immediate liquidity crisis, they would be in more need of a federal bailout than before the bankruptcy legislation was seriously mooted.

The fact is that there’s only one reason to invent a Chapter 8 bankruptcy provision for states—and that’s to come up with an efficient and legal way to impose losses on bondholders and other creditors. (Chapter 9, which applies to cities and other municipal entities, doesn’t apply to states.) The creditors, fully aware of this, would immediately cease lending, certainly to the rockier states like California, Illinois, and New York. That’s not what we want. As a result, unless or until those states can bring their budgets into a primary surplus, introducing such a provision would certainly do more harm than good. And if those states can bring their budgets into a primary surplus, then we don’t need the bankruptcy provision, since they’ll be easily capable of rolling over their debts.

However, even Salmon concedes the Skeel’s idea does “make a certain brutal sense.”

Regardless of the merits of Chapters 7 and 13 for consumers, and Chapter 11 for business reorgs–and beyond what the average American thinks–Chapter 8 may well be one of those ideas whose time has come.


For bankruptcy basics, please see:

Bankruptcy FAQ

Introduction to Chapter 7

Introduction to Chapter 13

Pennsylvania capital considers bankruptcy as California city seeks to emerge

Continued from: Cash-starved cities increasingly look to dangerous, rarely used Chapter 9

By Mike Hinshaw

A Dec. 22 article at the Allegheny Institute for Public Policy asks the question: “Is the Capital City Headed for Bankruptcy?“:

Just last week, the state’s capital city, Harrisburg (population 47k), was declared financially distressed under Act 47.  Harrisburg becomes the 20th city since the statute became law in 1987 to be so designated, joining Pittsburgh, Reading, and Scranton among others.

As we wrote earlier this year (Policy Brief Volume 10, Number 8) much of Harrisburg’s difficulties can be traced to the intricate financial ties it has with the Harrisburg Authority and a garbage incinerator that requires hefty debt payments.  The Secretary of the Department of Community and Economic Development (DCED), whose department houses the machinery that drives Act 47, issued an order on December 15th finding Harrisburg met two of the eleven criteria necessary to be declared distressed.

First, the Secretary found that criterion 3 that a “municipality has defaulted in payment of principal or interest on any of its bonds or notes in payment of rentals due any authority” was satisfied due to the City failing to make debt payments of $10 million and $34 million in 2010.

Second, the order noted that “the aggregate sum of separate claims asserted against the City which are presently involved in litigation before the Dauphin County Court of Common Pleas equals $73,212,366.85”.  Note that Harrisburg’s budget is $64 million.  Thus, criterion 9, “a municipality has sought to negotiate resolution or adjustment of a claim in excess of 30% against a fund or budget and has failed to reach an agreement with creditors”, was met.

City doesn’t need state’s permission, says spokeswoman

For background, we look to a Dec. 15 piece at Bloomberg.com: “Harrisburg sought aid under Pennsylvania’s Act 47 for distressed communities in the face of $282 million in debt it has guaranteed for an incinerator operated by the independent Harrisburg Authority. City officials could still seek bankruptcy protection without the state’s approval, Jamie Yates, a spokeswoman for the community department, said in an e-mail.

“ ‘This is an important first step on the city’s road to fiscal recovery,’ Mayor Linda Thompson, a first-term Democrat who opposes bankruptcy, said in a statement e-mailed by her office. ‘There will be difficult choices to be made by the city’s leaders as we craft a comprehensive long-term recovery plan. But, we have an opportunity to become the model for comeback cities, and it is my intention to seize that opportunity.’ ”

Chapter 9 differs from other forms of bankruptcy protection

As mentioned in our preceding post on this topic, Chapter 9 bankruptcy is unlike Chapter 7 or Chapter 13 bankruptcy protection for consumers–or even Chapter 11 for businesses. The latter three are designed to allow a fresh start for an individual or a company without undue collateral damage to society. Even the Wall Street Journal makes a distinction, as seen in this article from Feb. 2010: “Just days after becoming controller of financially strapped Harrisburg, Pa., in January, Daniel Miller began uttering an obscure term that baffled most people who had never heard it and chilled those who had: Chapter 9.

“The seldom-used part of U.S. bankruptcy law gives municipalities protection from creditors while developing a plan to pay off debts. Created in the wake of the Great Depression, Chapter 9 is widely considered a last resort and filings under it are more taboo than other parts of bankruptcy code because of the resulting uncertainty for everyone from municipal employees to bondholders.”

City workers’ paychecks threatened

Meanwhile, a Jan. 4 article in the online Wall Street Journal reported that a budget protocol issue–not directly related to the potential bankruptcy filing, yet indicative of the city’s financial condition–was causing Harrisburg’s city workers to face a delay in getting their current paychecks: “Employees in the distressed capital city Harrisburg, Pa., once again find their paychecks this week in jeopardy—this time because of a disagreement over protocol.

“City Controller Dan Miller is barring the release of paychecks due Thursday for the city’s 543 workers because the 2011 budget hasn’t been enacted.

” ‘Without a budget, we can’t pay bills,’ ” Mr. Miller said.

However, an update on Jan. 5 reveals that Miller has relented, based on information from the city council, so workers will get their checks: “Employees in the distressed capital city Harrisburg, Pa., are getting their paychecks Thursday, after a dispute over protocol was resolved.

“City Controller Dan Miller had said he would bar the release of paychecks for the city’s 543 workers because the 2011 budget hasn’t been enacted. Mayor Linda Thompson’s administration argued the paychecks should be released because the pay period was for 2010.

“But Miller decided to release the paychecks after he received confirmation that the five council members who voted for the budget on Dec. 30 would also vote to override a possible veto by the mayor.”

Vallejo planning exit from Chapter 9

A Dec. 29 piece at Bloomberg Businessweek says Vellejo, California serves as an example of why cities should avoid Chapter 9, which it entered in 2008:

By Jan. 18 the city of Vallejo, Calif., must submit a bankruptcy-exit plan to a Sacramento court. The plan will outline how the municipal government will meet $195 million of unfunded pension obligations, trim employee benefits, delay payments to bondholders, and set aside money for unsecured creditors.

If the court approves the plan, the city of 120,000 will be one step closer to the end of a painful experiment in restoring Vallejo’s finances. When Vallejo filed for Chapter 9 bankruptcy protection in May 2008 after failing to win pay cuts from the city workers’ unions, Vice-Mayor and Councilwoman Stephanie Gomes said officials around the U.S. would have their eyes trained on the city, which sits 32 miles north of San Francisco.

The lesson other cities have drawn from the two-year-old case, which has cost Vallejo $9.5 million in legal fees and made it a nationwide symbol of distressed municipal finances, is that out-of-court negotiations yield better results. “They spent a lot of money with very little outcome,” says Jay M. Goldstone, San Diego’s chief operating officer, who relied on negotiated pay cuts and higher benefit contributions from the unions to resolve his city’s fiscal crisis in 2009.

Still, Chapter 9 remains an option for municipalities and other smaller-than-state entities that can find no other way. According to the Businessweek piece, 10 municipal entities filed Chapter 9 in 2009, and five did so in 2010.  According to various sources, Chapter 9 has been filed about 600 times since it was allowed in the 1930s.

Next: Some say a “Chapter 8” should be created, allowing states to file for bankruptcy protection.


Whatever you do, before making major, life-changing financial decisions, consider consulting a trained, experience attorney. If you think your home is a candidate for a short sale, be sure to ask your attorney about it–it could greatly affect your standing and strategy for starting over.

For bankruptcy basics, please see:

Bankruptcy FAQ

Introduction to Chapter 7

Introduction to Chapter 13

Cash-starved cities increasingly look to dangerous, rarely used Chapter 9

Ever heard of Chapter 9 bankruptcy?

If so, you’re in the minority: very few know that cities and other municipal entities have recourse to bankruptcy protection, if state law allows–and 26 don’t. For them, special provisions must be made. Unlike Chapter 7 and Chapter 13 bankruptcies, Chapter 9 filings–although rare–can create a damaging, rippling, chain of events, including matters of life and death.

Specific statute required in 26 states

According to a column at Bloomberg.com from early in the year: “States can’t enter Chapter 9 bankruptcy, and 26 of them prohibit their municipalities from filing, according to Knox and Levinson. ‘A municipality in those states must seek enactment of a specific statute particular to it authorizing the filing. It goes without saying that a floundering municipality faces an uphill battle in such states.’

“That hasn’t stopped municipalities from talking about it more than they have since 1994, when Orange County, California, suffered through the country’s biggest municipal bankruptcy. Bondholders have to worry if it’s more than just talk.”

According to a Dec. 27 story in The New york Times, an “old working-class city almost surrounded by Detroit” is “pleading with the state to let them declare bankruptcy, a desperate move the state is not even willing to admit as an option under the current circumstances.”

Making it until March–maybe

City leaders are looking to Chapter 9 as a last-resort measure, having slashed the budget so drastically that if winter storms exhaust state funds for snow plowing city streets, the city will have no money left to address the problem.
” ‘We can make it until March 1 — maybe,’ … said [William J. Cooper, the city manager] of Hamtramck’s ability to pay its bills.”

“The state is concerned that if they say yes to one, if that door is opened, they’ll have 30 more cities right behind us,” Mr. Cooper said, as flurries fell outside his City Hall window. “But anything else is just a stop gap. We’re going to continue to pursue bankruptcy until the door is shut, locked, barricaded, bolted.”

Bankruptcy, increasingly common among corporations and individuals, remains rare for municipalities. Local leaders who want to win elections find it unappealing and often have other choices for solving financial woes. Besides, states have a say in whether a municipality may pursue bankruptcy at all, and they have every reason to avoid such an outcome, not least of all for fear of a creating a ripple effect that could cripple the municipal bond market and drive up the cost of borrowing.

Yet with anemic property tax revenues and forecasts of more dire financial times ahead, some experts and elected leaders fear that more localities may have to at least consider bankruptcy.

Issues of  life and death

A municipal bankruptcy can hurt more than bond sales and residents who get deprived of city services. City pensioners may be cut off, as has happened in Prichard, Alabama–which in October made its second Chapter 9 filing since 1999. According to an area newspaper, the Press-Register:

Mayor Ron Davis, who just two years ago helped the city pay off its creditors from the 1999 bankruptcy, blamed the latest financial crisis in part on a flawed municipal pension plan. The filing came a day before Davis and the city Finance Director Rex Williams were slated to be deposed by attorneys representing the pensioners in a lawsuit filed in August.

With the filing, that testimony will be put on hold, along with any other litigation pending against the city.

“After careful review of all of our options, bankruptcy protection seems to be the only solution left at this time,” Davis said in a statement released Tuesday afternoon. “Over the past 50 years, the pension plan was amended by the Legislature more than fifteen times, and always the economic burden on the City was increased. This has been a long-term problem that was unfortunately inherited by this administration.

“After several lawsuits filed by pensioners, it has forced us to come to this decision, one that will protect the city and its residents,” Davis’ statement added.

According to The New York Times, in a Dec. 22 story, the city has quit making pension payments to 150 former city workers. “Since then, Nettie Banks, 68, a retired Prichard police and fire dispatcher, has filed for bankruptcy. Alfred Arnold, a 66-year-old retired fire captain, has gone back to work as a shopping mall security guard to try to keep his house. Eddie Ragland, 59, a retired police captain, accepted help from colleagues, bake sales and collection jars after he was shot by a robber, leaving him badly wounded and unable to get to his new job as a police officer at the regional airport.

“Far worse was the retired fire marshal who died in June. Like many of the others, he was too young to collect Social Security. ‘When they found him, he had no electricity and no running water in his house,’ said David Anders, 58, a retired district fire chief. “He was a proud enough man that he wouldn’t accept help.’ ”

To be continued: Some even talk of creating a ‘Chapter 8’ to allow a state to declare bankruptcy.


Whatever you do, before making major, life-changing financial decisions, consider consulting a trained, experience attorney. If you think your home is a candidate for a short sale, be sure to ask your attorney about it–it could greatly affect your standing and strategy for starting over.

For bankruptcy basics, please see:

Bankruptcy FAQ

Introduction to Chapter 7

Introduction to Chapter 13