Is Bankruptcy a Viable Tool for Struggling Cities?

Panelists at Governing's Cost of Government summit shared their experiences with Chapter 9 bankruptcy.
by | September 19, 2012
 

Is Chapter 9 bankruptcy protection a viable option to save municipalities from financial ruin?

That was the question posed Tuesday to a panel of officials with firsthand experience with the issue at Governing’s annual Cost of Government Summit in Washington, D.C.

Most attendees asserted bankruptcy is not a good policy tool for struggling municipalities. Some, though, view it as a necessary last resort when municipal coffers are depleted.

Robert Flanders, former receiver for the city of Central Falls, R.I.

The city of Central Falls filed for bankruptcy in August 2011 after failing to obtain concessions from labor unions and employees. Flanders served as the city’s receiver until being replaced in June.

When he took over, the city was saddled with fewer state funds and high employee pension costs. Contracts allowing employees to retire at a young age and pass benefits onto relatives were particularly problematic, he said. The bankruptcy filing gave Flanders significant leverage in negotiating needed concessions.

“I suddenly became a lot more persuasive after Chapter 9 than I was before,” he said.

One of the city's more drastic measures involved slashing pension benefits for some retirees by more than 50 percent. “You’re going to open an empty envelope unless there is something you can agree to,” he recalled telling retirees.

Although some argued receivership displaces the democratic process, Flanders does not view it this way. He argues the city’s long-term outlook is now much brighter, and a judge recently approved a recovery plan expected to enable Central Falls to emerge from bankruptcy.

While Flanders wouldn’t want to recommend Chapter 9, he said it's a necessary last resort for some localities.

"Bankruptcy is not the disease for these cities and towns, it's the cure," he said.

Steven Kreisberg, director of collective bargaining and health care policy for the American Federation of State, County and Municipal Employees

Kreisberg pointed out many cities fear the stigma that comes with bankruptcy. Some residents opt to move away, he said, and economic activity declines when a locality files for Chapter 9.

“The root cause of this is lack of economic policy,” he said, adding that bankruptcy also harms the state and neighboring localities.

Regardless of what path they pursue, officials will need to bring all parties to the table to solve their problems, Kreisberg said. Although bankruptcy costs are dwarfed by money localities can save, court fees and other expenses aren’t cheap. “We could fight and hire the lawyers, or we can figure out a way to solve the problems,” Kreisberg said.

As others have argued, Kreisberg also stated a bankruptcy filing leads to a loss of democracy and accountability.

Robert Stout, interim finance director for Los Altos Hills, Calif.

Vallejo, Calif., became the largest city to declare for bankruptcy when it filed in 2008.

Stout, who served as the city’s finance director at the time, said revenues had plunged and citizens opposed any tax increases to maintain services. He faced a challenge in trimming payroll expenses, with minimum staffing levels set in contracts with both the city’s police and fire departments.

Once officials showed employees how dire the situation was, many of them left.  It was payments for these employees’ unused sick and vacation time that eventually led the city to declare for bankruptcy, Stout said.

Vallejo has since emerged from bankruptcy, but not before making deep cuts to staffing and city services.

To avoid a similar fate, Stout said municipalities must better understand their long-term costs and risks. “We should be real careful about making promises that won’t come due for 30 years.” he said.

Dayne Walling, mayor of Flint, Mich.

The city of Flint is currently subject to Michigan’s Public Act 72, a law allowing the state to appoint an emergency financial manager to oversee the city’s finances and operations. As a result, Walling and city council members are left with little authority.

Walling said bankruptcy should not be used as a broad policy tool. Instead, he said, governments must look to improve the state of municipal finances across the board.

“We need an industry-wide restructuring as opposed to an individual community set of interventions,” he said.

This requires greater cooperation among politicians and a more responsible public, he said. Walling also called on states to reform laws governing relationships between municipalities and labor unions.

Municipal Bankruptcies Map

A total of 28 municipalities have filed for bankruptcy since 2010, most of which are utility authorities and other special taxing districts. Cities, towns and counties are shown below in red. Utility authorities and all other municipalities are displayed in gray.

Click the graphic to open an interactive map with details for each municipality.

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