Formalizing Chapter 9's Experts

By Coordes, Laura N. | Michigan Law Review, May 2018 | Go to article overview

Formalizing Chapter 9's Experts


Coordes, Laura N., Michigan Law Review


INTRODUCTION

"I urge you now not to forget your anger. Your enduring and collective memory of what happened here, and your memory of your anger about it, will be exactly what will prevent this from ever happening again."1 When Judge Steven Rhodes spoke these words during Detroit's chapter 9 plan confirmation proceedings, he acknowledged a fear felt by nearly everyone in the courtroom: the fear that Detroit would not succeed postbankruptcy and would fall back into severe financial distress. This fear persisted years after Detroit exited bankruptcy.2

Chapter 9 of the Bankruptcy Code is supposed to assuage this fear. In particular, the standards for confirming a chapter 9 plan of debt adjustment are safeguards designed to ensure that a municipality exits bankruptcy on firmer footing while acting in good faith toward its creditors. Yet, judges tasked with confirming a municipality's plan of adjustment struggle to apply these standards, which were largely imported from chapter 11 of the Bankruptcy Code and do not easily map onto the particularities of municipal fiscal distress.3 This struggle produces uncertainty about bankruptcy's effectiveness for municipalities, which in turn contributes to state and local officials' reluctance to use (or permit) chapter 9 in the first place. Officials, uncertain whether the process will work and wary of the risk that using it will cut municipalities off from the capital markets, are likely to avoid chapter 9.4

Plan confirmation can be challenging in chapter 9 because municipalities are not autonomous or self-governing. Instead, their actions are shaped by the state in which they are located.5 Municipal officials must balance payments to creditors and the fulfillment of campaign promises with the immediate needs of the people that live and work within municipal boundaries.6 The complex nature of municipalities, and notably their intertwined relationship with their state, make it difficult for judges and creditors to understand a municipality's ability to navigate the bankruptcy system.7 For their part, states, particularly those facing fiscal problems of their own, are often not in a position to actively manage municipal affairs.8 Further complicating matters, the dearth of chapter 9 precedent makes it nearly impossible to apply the plan confirmation standards in a consistent, straightforward manner-and yet, that is exactly what chapter 9 judges are asked to do.9

Uncertainty about chapter 9's efficacy, combined with the cost and resource drain of bankruptcy, discourages municipalities from using chapter 9.10 With chapter 9 seemingly off the table, officials may instead choose to delay addressing financial problems.11 As a consequence, although the number of municipal bankruptcies has decreased in recent years, the need to resolve municipal fiscal distress is greater than ever. A well-publicized pension crisis is looming,12 and in many municipalities, this crisis is exacerbated by other unsustainable obligations.13 Many smaller cities and towns are struggling in quiet desperation,14 while large cities-even seemingly wealthy ones-are grappling with more public crises.15 Budgetary problems also exist at the state level, constraining states' abilities to assist their municipalities.16 To address these concerns, Congress has indicated that it will review the bankruptcy system's "responsiveness to the needs of financially troubled" municipalities in the coming year.17 Indeed, although alternatives to bankruptcy exist, when municipalities are facing debt overhang and the need for breathing space, bankruptcy ought to be a serious consideration.18

Recent events have reinforced the importance of critically examining the tools municipalities have at their disposal to resolve fiscal distress. In early May of 2017, Puerto Rico filed the largest government bankruptcy in U.S. history.19 Other governmental entities, including territories, states, and municipalities, will be closely watching Puerto Rico as it navigates the uncharted waters of its unique bankruptcy proceedings. …

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