Wall Street is taking America’s biggest pension fund to court this week, for a long-awaited battle over who takes the losses when a city goes bust — workers and retirees, municipal bondholders, or both.
Stockton, Calif., declared Chapter 9 bankruptcy last year after suffering one of the country’s sharpest riches-to-rags swings when the mortgage bubble burst. Struggling to stay afloat, Stockton has slashed tens of millions of dollars’ worth of city services — firefighters, senior centers, library programs for at-risk children — and said it would cut its municipal bond repayments to a degree never seen before in a municipal bankruptcy.
But it has drawn the line at slowing down its current workers’ pension accrual, or cutting the benefits its retirees now receive.
Mutual funds that hold the threatened bonds, and the insurers that guarantee them, have cried foul, citing the principle that in bankruptcy, similar classes of creditors must be treated the same way. Their objections have prompted the federal bankruptcy judge handling Stockton’s case, Christopher M. Klein, to schedule a four-day trial this week, starting Monday.
The immediate question before the judge is whether Stockton qualifies for Chapter 9 at all; unlike companies, cities must meet certain criteria before they can get federal court protection from creditors.
But there is a looming, larger question that has pension funds around the country nervous: Will a victory by bondholders in Stockton pave the way for cuts in its workers’ pensions and its payments to Calpers, which, in turn, could lead to the demise of other public pension plans?
One small city in Rhode Island, Central Falls, has already cut its pensions severely, but legal experts say Rhode Island’s laws made it easier there than it would be in most other places — particularly California, where the huge state pension system has deep pockets to fight legal battles. Central Falls was not part of any state system, and its pension fund for police officers and firefighters nearly ran out of money.
“People will be watching very closely,” said Michael A. Sweet, a bankruptcy lawyer at Fox Rothschild in San Francisco, whose practice includes advising local governments on Chapter 9 issues.
Cities, school districts and local governments all over the country have promised their workers pensions that looked reasonable in better times, but have turned into budget-busters since the financial crisis. Local taxpayers are increasingly unwilling to shoulder the rising costs, yet conventional wisdom has it that public pensions cannot be reduced. Some officials are quietly wondering if that means not even in bankruptcy.
“Every member of every city council that’s struggling with these issues, who takes their job seriously, is looking for solutions,” Mr. Sweet said. “No one wants to talk about it, and no one really wants to go there. But if Calpers can be forced to take a haircut in Stockton, then what’s to stop another city from saying, ‘Gee, we’ll file for bankruptcy and cut in half our $10 million pension contribution?’ ”
He and other public finance lawyers said that what happens in Stockton could help guide Detroit, which is not in Chapter 9 but was recently put under emergency management by the state of Michigan.
Calpers is a $252 billion giant that administers pensions for California state employees and many municipal workers. It calculates how much its member cities must set aside each year, bills them, collects the money, invests it and sends retirees their benefits. When Calpers’s investments lose money, as they did in the stock market crash, the bills increase.
In 2011, Stockton paid a little more than $20 million to Calpers — about double what it paid to run its public libraries. Its payments are expected to nearly double in the next 10 years, making Calpers the city’s biggest creditor. Stockton says it has no choice but to keep paying, even as it pares other costs, including its payments to bondholders. It says that if it cuts the rate at which its workers build up their pensions, workers will leave — especially the police, who have been recruited with the promise of large, early pensions. Last year, Stockton asked Calpers for a “hardship exemption,” allowing it to slow down its contributions. Calpers said no, fearing that if Stockton fell behind, it might never catch up.
“They’re scared to death,” Mr. Sweet said. “Calpers says, ‘You can’t give us a haircut, because if you do, the world is going to collapse. If it happens in Stockton, it’s going to happen in San Bernardino, and if it happens in San Bernardino it’s going to happen in Modesto, and if it happens in Modesto it’s going to happen in Bakersfield, and if it happens in Bakersfield it’s going to happen in Fresno.’ ”
In fact, San Bernardino filed for Chapter 9 bankruptcy not long after Stockton did, then simply stopped making its contributions to Calpers. Calpers geared up to sue, but the judge handling San Bernardino’s case, Meredith M. Jury, stopped it, saying she would address the issue of pension contributions later in the bankruptcy.
A spokeswoman for Calpers, Amy Norris, praised Stockton for keeping up its pension contributions in bankruptcy, saying it had made “the right business decision.”
But the Wall Street creditors say Stockton is getting the money for Calpers by shortchanging its bondholders.
“The agenda is clear,” wrote Jeffrey E. Bjork, a partner at Sidley Austin in Los Angeles, in a court filing on behalf of Assured Guaranty, a bond insurer. “The city hopes to use the Chapter 9 plan process to impose permanent impairment, and to cram down a nonconsensual plan, on capital-market creditors.” Mr. Bjork said this was an improper use of Chapter 9 and asked Judge Klein to throw out Stockton’s case.
Other creditors making similar arguments include two high-yield mutual funds managed by Franklin Advisers; Wells Fargo Bank, the bond trustee; and the National Public Finance Guarantee Corporation, another bond insurer.
Article source: http://www.nytimes.com/2013/03/25/business/economy/court-to-decide-on-pensions-in-stockton-calif-bankruptcy.html?partner=rss&emc=rss