Court to decide if Detroit really is broke

Reuters

By Joseph Lichterman

DETROIT, Oct 23 (Reuters) - In a federal court building indowntown Detroit, beginning on Wednesday morning, the largestmunicipal bankruptcy filing in U.S. history comes down to asingle question: Is Detroit bankrupt?

Federal bankruptcy judge Steven Rhodes will begin hearingarguments on the crucial issue of whether Detroit is eligible torestructure its debts and liabilities under Chapter 9 of theU.S. Bankruptcy Code that applies to municipalities.

The hearings will pit retirees, pension funds and unionstrying to preserve retirement payments to city workers againstDetroit's state-appointed emergency manager, charged withrighting the city's finances.

Detroit clearly is struggling. More than one-third of itsresidents live below the government poverty line. There are some78,000 abandoned structures and just 40 percent of the streetlights work. Detroit's population has shrunk to less than700,000, from a peak of 1.8 million in 1950, and only 53 percentof property owners paid their 2011 property taxes.

But such troubles do not necessarily amount to bankruptcyunder federal law. And in the multi-day hearing that opens atthe Theodore Levin U.S. Courthouse, Detroit's attorneys willneed to prove that Detroit meets the legal requirements forChapter 9 bankruptcy protection.

City lawyers are expected to tick off arguments meant tomeet that standard: Detroit had proper authorization to file thecase, it is financially insolvent, it negotiated in good faithwith its creditors or had so many creditors that suchnegotiations were not feasible, and it requires bankruptcyprotection in order to deal with $18 billion in debt and otherliabilities.

Many bankruptcy experts say Rhodes is likely to find Detroiteligible, though his ultimate ruling is hardly a foregoneconclusion. "Chapter 9 is never routine," said Juliet M.Moringiello, a law professor at Widener Law School inHarrisburg, Pennsylvania, who has followed proceedings in theDetroit case.

The city filed the case on July 18, and it said about halfof its liabilities stem from retirement benefits, including $5.7billion for healthcare and other obligations, and $3.5 billioninvolving pensions. How the city restructures its debt may setprecedents for other struggling municipalities, bankruptcyexperts said.

"We'll see other Chapter 9s," said Kenneth Klee of Klee,Tuchin, Bogdanoff & Stern in Los Angeles, who is representingJefferson County, Alabama in its Chapter 9 case. "The pensionproblem is one that will require resolution, and with the laborrelations being strained in parts of the country and somepoliticians not able to say no to employees and retirees, Iexpect there will be other chapter 9s to be filed."

On Monday, attorneys wrapped up a three-day hearing on legalauthority issues surrounding the bankruptcy as objectors arguedthat Chapter 9 is unconstitutional and that Michigan'sconstitution protects pensions from being slashed.

"It's one of those moments that I think that we will lookback on and say 'This is where Chapter 9 changed,'" attorneyBarbette Ceccoti told the court on Monday on behalf of theUnited Auto Workers union, which represents some city workers.

Moringiello said parties tend to object to bankruptcyfilings because they think they can do better under state law,and she said if Rhodes does not grant eligibility the creditors likely will try to get a state court to force the city to payits debts.

"Those are not terribly effective remedies," she said. "Youdon't have the same remedies you have against a private debtor."

OBJECTIONS

Detroit's unions, pension funds and retirees have all filedobjections to the bankruptcy, and will argue that the city isnot eligible for court protection.

They have submitted a number of arguments, including thatthe city did not appropriately negotiate with its creditorsbecause Detroit's emergency manager, Kevyn Orr, only heldinformational meetings, not formal negotiating sessions, beforefiling for bankruptcy.

Objectors also are expected to contend that Detroit is notinsolvent. It has assets like its water and sewer system or theworks of the Detroit Institute of Arts that it can monetize.

"There are only so many things they can fight about," saidJohn Pottow, a University of Michigan professor who specializesin bankruptcy law. "They can fight about the solvency and theycan fight about the negotiating in good faith. It probably won'ttake too long to have a trial, but it's a big stakes thing."

Attorneys on both sides will present evidence and callwitnesses before Rhodes. The city plans to call five witnesses,including Orr and Detroit Police Chief James Craig, saidGeoffrey Irwin, a lawyer with Jones Day representing the city.

The objectors said they have not finalized their witnesslist. But they have said they could call up to 15 or sowitnesses, including Michigan Governor Rick Snyder, who wassubpoenaed by the UAW.

Rhodes has scheduled 10 days of hearings over the next threeweeks for all sides to present their arguments, but attorneyshave indicated the arguments could wrap up as early as nextweek. It is not clear how soon Rhodes could rule on eligibility.

Throughout the case, Rhodes has been committed to expeditingthe process and encouraging the parties to negotiate with oneanother. Rhodes appointed Chief District Judge Gerald Rosen aschief mediator, and he's leading a team of five additionalmediators to help the process along.

"He is finding ways to take control of this case to keep iton schedule, in ways people didn't necessarily think werepossible in a Chapter 9, in ways that aren't necessarily writteninto the statute," said Melissa B. Jacoby, a professor andbankruptcy expert at the University of North Carolina School ofLaw.

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