(Recasts, adds comments from legal experts)
By Karen Pierog and Lisa Lambert
July 22 (Reuters) - Detroit will head into the critical phase of its historic bankruptcy case next month with the backing of an overwhelming majority of its active and retired workers and with opposition from a small, hard-core group of hold-out creditors.
It puts U.S. Judge Steven Rhodes in a position to impose the plan to adjust $18 billion in debt on objecting creditors or for the city to settle with those creditors. A confirmation hearing on the plan begins Aug. 14.
"The judge can cram down the dissenters upon a showing that the plan does not discriminate unfairly against them, and is fair and equitable to them," Laura Bartell, a law professor at Wayne State University in Detroit, said on Tuesday. "What that means is up to the judge."
The city's plan, which cuts pensions and changes retiree health care, was accepted by about 82 percent of the Police & Fire Retirement System and 73 percent of the General Retirement System retirees and active employees, according to voting results filed in U.S. Bankruptcy Court late Monday. Should the judge approve the plan, it will end a year-long, costly bankruptcy process for the struggling city.
City workers and retirees would see smaller pension reductions under the so-called grand bargain, which taps $466 million pledged by philanthropic foundations and the Detroit Institute of Arts over 20 years and $195 million from the state of Michigan to ease pension cuts and save art work from being sold to pay city creditors.
Most bondholders rejected the plan, along with insurers backing some of the debt.
All of the creditors for $1.47 billion of defaulted pension certificates of participation (COPs) rejected the plan, which offers them a recovery of just pennies on the dollar.
Syncora Guarantee Inc and Financial Guaranty Insurance Co, which guarantee payment of the pension debt, have contended that Detroit's plan treats them unfairly compared to other creditors, including city retirees.
"Unfortunately, the city's current offer to FGIC and the COPs bondholders in the plan is completely inferior, and until the city treats us fairly, we are compelled to fight for the fair and equitable treatment that is our right under the bankruptcy code," an FGIC spokesman said on Tuesday.
Juliet Moringiello, professor at Widener Law School in Harrisburg, Pennsylvania, said the basic questions for Judge Rhodes are whether the grand bargain is fair and equitable and if it is legal for non-debtor foundations to provide money to retirees to save Detroit art work, while a class of creditors gets almost nothing.
"Although there is more and more of a body of case law in Chapter 9 in the past couple of years, that case law has beefed up the analysis on eligibility but on confirmation standards it is still pretty scant," Moringiello said.
She added that no city, town or county bankruptcy has ever included a cram-down provision at confirmation.
The city declared that the lopsided vote by members of its two retirement systems in favor of the deal puts Detroit on track for a coming trial to determine whether the plan is fair and feasible.
"The voting shows strong support for the city's plan to adjust its debts and for the investment necessary to provide essential services and put Detroit on secure financial footing," said Detroit Emergency Manager Kevyn Orr in a statement on Monday.
Detroit filed for bankruptcy in July 2013 after decades of dwindling population and a declining manufacturing base left the city of approximately 688,000 struggling to pay its bills.
A simple majority of creditors in a class with claims totaling at least two-thirds of the total debt in that class were needed to approve the plan. Detroit said it sent out about 32,300 ballots to its workforce and retirees and that 15,626 were returned and counted.
A rejection of the plan would have dissolved the grand bargain, leaving retirees with bigger pension cuts. Michigan Attorney General Bill Schuette, who had vowed to uphold state constitutional protections for public pensions, said he will respect the decision by the workers and retirees to waive those protections.
Four classes of Detroit creditors, including limited-tax general obligation bonds and the pension COPs, voted to reject the plan, while six accepted it, the court filings showed.
Most of the 150 sub-classes of creditors for $5.27 billion of mostly insured water and sewer revenue bonds rejected the plan, according to Detroit's attorney Heather Lennox.
Parties to the city's first creditor settlement - Bank of America unit Merrill Lynch Capital Services and UBS AG - also accepted the plan, which would give them $85 million to terminate costly interest-rate swap deals related to the COPs.
Nearly 96 percent of holders of unsecured limited-tax GO bonds, who face a 34 percent recovery on their investments, turned down the plan, while 87 percent of unsecured unlimited-tax GO bond creditors, who would get a 74 percent recovery, voted for it.
A July 18 report by Martha Kopacz, a senior managing director at Phoenix Management Services in Boston who was chosen by Rhodes in April as an expert witness, concluded that the plan was feasible and that its revenue, expense and payment assumptions were reasonable.
However, Kopacz raised concerns over the speed of the bankruptcy case and that existing settlements with creditors may have already left the city with limited resources to pay for its post-bankruptcy efforts.
"This bankruptcy has been largely focused on deleveraging the city, often to the exclusion of fixing the city's broken operations," she wrote.
(Reporting by Karen Pierog and Lisa Lambert, additional reporting by Tom Hals; Editing by David Gaffen, Jacqueline Wong, Chizu Nomiyama and James Dalgleish)