STUMP » Articles » Boom Goes the Dynamite: Pensions Can Be Cut in Muni Bankruptcy » 2 October 2014, 09:34

Now, this isn’t news to Detroit retirees and employees, but these things can differ state-by-state, especially when you’ve got the pension plan run by a statewide entity, as opposed to locally.

But first, to the news item:

Bankruptcy judge: CalPERS pensions can be cut
A federal judge ruled yesterday that CalPERS pensions can be cut in bankruptcy like other debt. He rejected the argument that the giant system is an “arm of the state” with pensions protected by federal law and two state laws on contracts and liens.

U.S. Bankruptcy Judge Christopher Klein, who has called the issue of whether CalPERS pensions can be cut in bankruptcy a “festering sore,” delayed until Oct. 30 a ruling on whether Stockton can exit bankruptcy without cutting pensions.

Stockton does not want to cut pensions, arguing they are needed to be a competitive employer, particularly for police. The city reached agreements with three bond insurers owed $265 million, all labor unions, retirees and other major creditors.

But Stockton could not negotiate an agreement with a lone holdout, two Franklin bond funds owed $36 million, triggering a trial in May on the Stockton “plan of adjustment” to cut debt and emerge from the bankruptcy filed two years ago.

Franklin argues that an exit plan that provides full payment of the city’s “massive” pension liability, while paying Franklin a penny on the dollar, cannot be confirmed under the federal bankruptcy code requiring fair treatment of creditors.

So let us understand why this is so critical for public pensions in general, and California municipalities in specific.

In this case, the political entities who were trying to work out a deal did not want to cut pensions, unlike situations like Detroit or San Bernadino.

Let us go to the Wall Street Journal:

“Pensions could be adjusted,” Judge Klein said from his Sacramento courtroom.

Payments into pension funds are usually considered sacrosanct, but Judge Klein is the second judge to rule recently that they may be cut. In December, the judge overseeing Detroit’s bankruptcy case ruled that such obligations aren’t entitled to “extraordinary protection” despite state constitutional safeguards against benefit cuts.

“These rulings are going to carry a lot of weight,” said Patrick O’Keefe, a Bloomfield Hills, Mich.-based financial consultant who has worked on municipal turnarounds but isn’t involved in Stockton’s case. If judges decide that bankrupt cities in Michigan and California can reduce their pension obligations, “what stops Chicago or Los Angeles from doing the same thing?”

…..
In a statement, Calpers officials said they disagree with Judge Klein’s ruling on pension impairment.

“This ruling is not legally binding on any of the parties in the Stockton case or as precedent in any other bankruptcy proceeding,” the statement said.

…..
Throughout the city’s bankruptcy, Stockton lawyers fought off pressure to make pension cuts to free up money to repay a bondholder’s $37 million claim. Two funds managed by Franklin Templeton Investments, which extended the bonds for the city’s fire stations and parks, argued that the city’s long-term projections show that it could afford to repay more than the city’s $4 million offer.

Here’s the deal — in Detroit, in San Bernadino, the “people in charge” wanted to cut employee benefits. So they were seeking such a ruling. They don’t necessarily want to cut pensions a great deal (ultimately, Detroit is going with a relatively mild cut, so mild that the unions actually voted for it 73% in favor.)

But in Stockton’s case, it was a bondholder who pressed the issue. The Stockton managers (or whatever) and definitely the pension plan Calpers didn’t want anything cut at all.

Calpers obviously is going to try to appeal this stuff and has made their own comments:

We disagree with the Judge’s opinion on the issue of pension impairment. This ruling is not legally binding on any of the parties in the Stockton case or as precedent in any other bankruptcy proceeding and is unnecessary to the decision on confirmation of the City of Stockton’s plan of adjustment. CalPERS will reserve any further comment until such time as the court renders its final written decision. What’s important to keep in mind is what the City of Stockton stated in court today: that they can’t function as a city if their pensions are impaired.

They also can’t function as a city if their ability to raise funds for capital projects is impaired.

Bankruptcy is the recognition that an entity cannot function financially, and needs to officially come up with a plan that is viable — paying off their debts to the extent possible over a reasonable time period, and being forced to do it in a manner considered fair.

If one creditor is paid in full, while everybody else gets whacked heavily — and if the entity is continuing to rack up huge debts to that one creditor indefinitely in the future — how the hell is anybody ever going to give them money for anything, knowing that the money given will be siphoned off to pay the elephant?

No, this particular ruling is not binding for whatever workout deal yet. And in the Detroit case, one creditor who complained pensions (and the art museum) did not get cut enough was forced to back down — it may be that Franklin will also back down as Syncora did.

We shall see.

But I think as more of these types of rulings build up, we’ll be hearing less and less about how sancrosanct pensions are, especially when the pensions are one of the driving forces of bankruptcy for some of these entities.

I understand why Calpers is fighting this so hard, but they need to start thinking about how they will deal not only with pension cuts, but entities also not paying Pension Obligation Bonds to Calpers in full due to bankruptcy.

If they are not planning for that contingency, it will be worse when it does arrive, due to reality, if nothing else.