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Let’s Watch Those Attorneys’ Fees: Another First in Detroit

Judge Steven Rhodes, who is overseeing Detroit’s Chapter 9 bankruptcy, appears set to take the unprecedented step of appointing an examiner to review professional fees in the case. 

Judge Rhodes proposed the use of an examiner prior to a hearing held on August 2, and, following that hearing, entered an order opening up a one week comment period in which parties could make suggestions for who the examiner should be. The use of fee examiners is on the rise in complex bankruptcy cases, having been used in the Lehman Brothers and General Motors bankruptcies, among others. 

The move by Judge Rhodes is notable because reviewing the retention and fees of a Chapter 9 debtor’s professionals is generally not within a bankruptcy court’s power. In most bankruptcy cases, a debtor must apply to the bankruptcy court for authorization to retain professionals, including attorneys, financial advisors and accountants. Once retained, those professionals may generally be paid out of a debtor’s estate, and...

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When is a Political Subdivision Not a Political Subdivision? When the IRS Says So

The IRS has issued a Technical Advice Memorandum that could significantly impact the ability of special districts to issue tax-exempt debt and to seek bankruptcy relief under Chapter 9.

The memorandum concludes that a community development district formed under the Florida Uniform Community Development District Act of 1980 (the “Florida Act”) was not a “political subdivision” for purposes of Treasury Regulation Section 1.103-1(b). This section defines “political subdivision” as “any division of any State or local governmental unit which is a municipal corporation or which has been delegated the right to exercise part of the sovereign power of the unit.”

“Community development district” is defined in Section 190.003(6) of the Florida Act in part as “a local unit of special-purpose government which is created pursuant to this act and limited to the performance of those specialized functions authorized by this act….” 

The IRS concluded that due to the low number of registered voters within...

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Visionary Schemes Need Not Apply: The Chapter 9 Plan Feasibility Requirement

Chapter 9 debtors must demonstrate “feasibility” before their plans of adjustment can be confirmed by a bankruptcy court. This is similar to the corporate reorganization requirement that a plan is “not likely to be followed by liquidation or the need for further financial reorganization.” Generally, feasibility means that the debtor has the ability and financial wherewithal to make the payments to creditors outlined in the proposed plan. This test is designed to prevent Chapter 9 debtors from indulging in over-optimism at the expense of itself, its creditors and its constituents. 

A Chapter 9 debtor has the burden of establishing that the plan is feasible. Bankruptcy courts will generally assess the reasonableness of revenue projections and expenses, and consider whether the debtor will be able to make payments on its prepetition debts and provide for municipal operations. See In Re Mount Carbon Metropolitan District.

A debtor will generally want to provide the bankruptcy court with...

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How is the “Best Interests” Standard Different Under Chapter 9 and Chapter 11?

As discussed in previous posts, there are key legal differences between Chapter 11 and Chapter 9. The “best interests” standard, a requirement for the confirmation of a plan under both Chapter 9 and Chapter 11, is considerably less onerous on the Chapter 9 debtor than the Chapter 11 debtor.

Under Chapter 11, the “best interests of creditors” standard is a familiar one. It requires that each claimant that has not accepted the plan receive at least as much as they would have received under a hypothetical Chapter 7 liquidation.

A municipality, however, cannot be liquidated under Chapter 7. Instead the Chapter 9 “best interests” standard requires only that the municipality show that the plan provides a better alternative for creditors than what they already have, which is just dismissal of the case. Under a dismissal scenario, creditors are left to fight it out using whatever litigation tools they can muster to recover on their claims.  This generally means little to no payment.

As one...

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Good Faith: Not Always as Easy as it Sounds

The goal of most Chapter 9 bankruptcy cases is confirmation of a plan of adjustment. Confirmation requires a finding by the Bankruptcy Court that the proposed plan satisfies a number of legal standards, which include the requirement that the plan be “proposed in good faith and not by any means forbidden by law.” 

There is no definition of “good faith” in the Bankruptcy Code and few courts have been asked to decide what good faith is in the context of a municipal bankruptcy. Broadly speaking, to find that a plan was proposed in good faith, courts generally require that the plan treat all interested parties fairly and that the efforts used to confirm the plan meet due process standards. While assessing whether there is fairness in treatment and process, and thus good faith, may appear simple, the unique constituencies, contexts and controversies that characterize municipality bankruptcies under Chapter 9 can make good faith determinations difficult.

Municipalities that are formulating...

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Are We There Yet? Post Confirmation Issues Part II - The Bankruptcy Court’s Continued Jurisdiction

The symbolic finish line of a Chapter 9 bankruptcy case is the confirmation of a plan of adjustment, which dictates the manner in which the debtor will pay its debts and resolves other issues that led the debtor to enter bankruptcy.  Most debtors are eager to put their Chapter 9 past behind them and move on with their renewed lease on municipal life. While a debtor may be done with bankruptcy, however, bankruptcy is not always done with the debtor.  

Although the debtor may never want to see the inside of the bankruptcy court again following the confirmation hearing, it may not have a choice. The bankruptcy court is empowered by Section 945 of the Bankruptcy Code to retain jurisdiction over a Chapter 9 case “for such period of time as is necessary for the successful implementation of the plan.” Just how long this period lasts is very much up to the interpretation of the individual bankruptcy court. Some courts have kept cases open as long as payments under newly-issued bonds remain...

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Are We There Yet? Post Confirmation Issues Part I – Obtaining a Chapter 9 Discharge

The symbolic finish line of a Chapter 9 bankruptcy case is the confirmation of a plan of adjustment which dictates the manner in which the debtor will pay its debts and resolves other issues that led to the bankruptcy. Most debtors are eager to emerge from Chapter 9 after plan confirmation. Interestingly, however, while a debtor may be done with bankruptcy, bankruptcy is not always done with the debtor.  

After confirmation, issues remain that will effect a debtor’s post-bankruptcy fresh start. The central piece to many plans of adjustment is a discharge of the debtor’s pre-petition debt. Notwithstanding the confirmed plan’s inclusion of a discharge, however, Section 944 of the Bankruptcy Code lays out two additional pre-requisites to the effectiveness of a Chapter 9 debtor’s discharge. 

First, the debtor must deposit any consideration, including securities, cash or other assets that will be distributed under the plan to a disbursing agent appointed by the court. This allows...

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CREW Los Angeles Panel Recap

Goodwin Procter partner and MuniBK contributor Deborah Schrier-Rape recently acted as a moderator for the Commercial Real Estate Women Los Angeles (“CREW Los Angeles”) panel entitled, “Public Finance in a Sea of Challenge: A Look at What Has Come and What is to Come.” The panelists discussed what public financing transactions are getting done with tax laws in flux and cities contemplating municipal bankruptcy, and what the prospects are for public finance going forward.

Speakers at this CREW Los Angeles monthly luncheon included: Marla Bleavins, Project Manager at Los Angeles World Airports; Stephen E. Heaney, Managing Director of Stifel Nicolaus & Company, Incorporated; Barbara Lloyd, Managing Director of KPMG Corporate Finance LLC; and, Andrea Caruso Townsend, Of Counsel at Squire Sanders. 

Please click here to access a portion of the power point presentation that guided the discussion.

CREW Los Angeles is an organization seeking to advance the careers and success of women...

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Goodwin Procter Partner Lewis Feldman to Speak at 9th Annual Wharton Restructuring and Distressed Investing Conference on February 22

On February 22, Goodwin Procter partner and MuniBK contributor Lewis Feldman will participate in the 9th Annual Wharton Restructuring and Distressed Investing Conference entitled, “Health of Nations: Distress, Recovery, or Revival”  which is the largest restructuring and distressed investing-focused school-run conference in the United States. This year the conference will be held at the Hyatt at the Bellevue in Philadelphia, Pennsylvania.

Lewis will be featured as a speaker in the panel entitled, “Financial Restructuring: Muni Storm on the Horizon” along with Jamie Baird, Managing Director, Blackstone; Sean Gumbs, Senior Managing Director, FTI Consulting; James E. Pass, Managing Director, Portfolio Manager, Guggenheim Investments; and, Rebecca Rhynhart, Budget Director, City of Philadelphia. William J. Nolan, Senior Managing Director, FTI Consulting will moderate the panel which will discuss the indicators of distress, venues, key players, legal framework and municipal bond markets, and...

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Chapter 9 Eligibility: The Test for Insolvency (Part 3 of 3)

When is a municipality insolvent because it is unable to pay its debts as they become due? This generally means that at some point in the future (but not too far into the future), the municipality will lack the cash necessary to make scheduled debt payments. In these cases, there are not clearly defined criteria, but rather, the Bankruptcy Court will evaluate these filings on a case by case basis and conduct a prospective analysis. A municipality that is current on its debt obligations but can reasonably forecast upcoming financial difficulties need not wait to fall off a fiscal cliff before availing itself of the debt protections offered by Chapter 9. 

How far into the future will a court look to evaluate these claims under a Chapter 9 petition? When the city of Bridgeport faced an objection to its Chapter 9 petition in the early 90’s, the Bankruptcy Court concluded that to satisfy this criteria a municipality “must prove that it will be unable to pay its debts as they become due in...

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Chapter 9 Eligibility: The Test for Insolvency (Part 2 of 3)

When is a municipality “generally not paying its debts as they become due”? This question is somewhat easier to answer than the alternative definition of insolvency, a municipality’s inability to pay its debts as they become due. 

To satisfy the first standard, a municipality need only show actual nonpayment. Case law, however, has placed some parameters on exactly how this is defined. For example, according to In re Town of Westlake, Texas, a municipality cannot refuse to pay amounts that are not subject to a dispute when it otherwise has the funds to do so. Similarly, under In re Hamilton Creek Metropolitan Dist., not paying future debts, or a municipality’s inability to pay future debts, does not satisfy this test. This test is limited to an analysis of whether a municipality failed to pay a debt that is presently due, at a time when it did not have the resources to do so. 

For the purposes of Chapter 9, a municipality is not insolvent if unpaid debts are the subject of a bona fide...

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Chapter 9 Eligibility: The Test for Insolvency (Part 1 of 3)

The Bankruptcy Code places limitations on the use of Chapter 9.  The largest limitation, mandated by the Tenth Amendment to the Constitution, is whether a state permits municipal bankruptcy filings. Once that hurdle is overcome, a municipality must prove its eligibility to file for Chapter 9 protection. As MuniBK has previously reported, the entity must meet the definition of a “municipality.” The requirements, however, do not stop there. The municipality must also be insolvent. In a series of three posts, MuniBK will examine what is meant by “insolvency.” 

Chapter 11, the section of the Bankruptcy Code that addresses non-municipal reorganizations, does not require that an entity seeking protection be insolvent. In contrast, insolvency is a threshold issue in Chapter 9. As will be discussed later in this series, this definition also includes prospectiveinsolvency, so that municipalities need not wait until the eleventh hour before availing themselves of Chapter 9’s flexibility...

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The Automatic Stay and Chapter 9

When an entity files for protection under federal bankruptcy law, a stay is automatically triggered that prevents suits or other actions arising from pre-petition actions from proceeding or being brought against the debtor. Essentially, it automatically prohibits almost all forms of creditor enforcement remedies, such as seeking a judgment lien or foreclosing on an asset.  The purpose of this automatic stay is to provide a debtor with “breathing” room to analyze its financial situation and craft a plan for recovery. 

The automatic stay is generally applicable in Chapter 9 municipal bankruptcies, providing a municipality with a breathing spell to restructure its finances through a plan of adjustment. Although broadly speaking the automatic stay operates similarly in Chapter 9 as in other chapters of the Bankruptcy Code, there are some significant differences.

First, Chapter 9 expands the scope of the automatic stay to prohibit actions against any officer or inhabitant of the municipality...

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Bankruptcy Court Denies Request To Allow Officials the Right to Challenge Jefferson County Decision

Jefferson County, Alabama has been in bankruptcy since November 9, 2011. Although indebtedness related to bonds issued to rebuild and overhaul the county’s sewer system has been identified as the primary reason for the Chapter 9 filing, the county has concurrently experienced a significant decrease in cash flow as a result of the loss of tax revenue. Due to revenue declines, the county has been forced to make difficult decisions regarding spending since the bankruptcy filing, including deciding to close Cooper Green Mercy Hospital, which historically provided emergency and inpatient care to Jefferson County’s indigent residents. 

In response to the decision to close the hospital, the city of Birmingham and others sought a ruling from the Bankruptcy Court that they could proceed with a state court action challenging the county’s decision to end emergency room and inpatient care services at the hospital, despite the automatic stay granted to debtors under Chapter 9 protection.

The city of...

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Use of the "Emergency Out" in AB 506

In response to the City of Vallejo’s bankruptcy in 2008, California passed AB 506 in 2011, establishing prerequisites that must be satisfied before a municipality can file for bankruptcy under Chapter 9 of the Bankruptcy Code.  Under AB 506, the municipality must first either submit to a mediated neutral evaluation process or declare a “fiscal emergency.” An obvious and important question thus becomes, what exactly constitutes a “fiscal emergency”?

According to the California Government Code, for there to be a fiscal emergency, the applicable entity must adopt a resolution by a majority vote of the relevant governing body stating that its fiscal condition threatens “the health, safety, or well-being of the municipality.”  The fiscal emergency option was added to AB 506 to address situations where unforeseen circumstances beyond the control of the municipality occur that require immediate action.

San Bernardino, which filed for protection under Chapter 9 on August 1, 2012, is the first...

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Can Any "Municipality" File for Ch 9 Bankruptcy? Part 2 of 2

The previous post in this series examined the statutory definitions of a municipality.  The three eligible types of entities under Chapter 9 of the Bankruptcy Code include the nebulous “instrumentality of a state,” which is receiving increasing attention from potential filers.

Two recent court cases focused on this issue. 

In In re Hospital Authority of Charlton County, the Bankruptcy Court for the Southern District of Georgia applied the criteria developed in In re Las Vegas Monorail Co., decided in 2010, and determined that the Hospital Authority of Charlton County was an instrumentality of the state.

The court affirmed the standard laid out in Las Vegas Monorail, and found that an entity’s ability to qualify as an instrumentality of a state depends on the answers to three questions:

(1)        Does the entity have any of the powers typically associated with sovereignty, such as eminent domain, taxing power or sovereign immunity?

(2)        If these powers are absent or only weakly...

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Can Any “Municipality” File for Ch 9 Bankruptcy? Part 1 of 2

As cities and states continue to struggle financially, and with cities in Alabama and California already availing themselves of its protections, more governmental entities are examining the option of restructuring under Chapter 9 of the Bankruptcy Code. Access to Chapter 9 relief, however,  is tightly controlled and not every “municipality” is eligible to file. 

Protection under Chapter 9 of the Bankruptcy Code is  not only limited to “municipalities,” but  further restricted to three statutorily prescribed sub-groups: 

(1)        political subdivisions;

(2)        public agencies; and

(3)        instrumentalities of a state.

There is little debate over what constitutes a political subdivision or a public agency. Those terms generally cover expected entities such as counties, cities, and school districts. 

The term “instrumentality of a state” is, on the other hand, much broader and open to greater interpretation.  The vagueness of the term, combined with the practical implications of the...

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Chapter 9 vs. Chapter 11: A Summary of Key Differences

In the last year, several municipalities, including Jefferson County, Alabama; Stockton, CA; San Bernardino, CA; and Central Falls, RI, have sought protection under Chapter 9 of the Bankruptcy Code. Chapter 9, enacted solely for municipalities, has many similarities to Chapter 11, enacted for corporations and individuals seeking to reorganize their debts. There are several key differences between Chapter 9 and Chapter 11. 

A brief summary of these differences is set forth here

Chapter 9 filings are still relatively rare.  However, if you find yourself involved in a Chapter 9 case, it is important to recognize that the processes, procedures and rights in Chapter 9 cases can vary significantly from Chapter 11 reorganizations. 

 

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California AB 506: More Bark than Bite?

Passage of California’s AB 506 requires financially troubled municipalities to participate in a neutral evaluation process with its creditors, or declare a fiscal emergency before filing for protection under Chapter 9 of the Bankruptcy Code.  Although courts have yet to provide much insight into the practical and legal ramifications of AB 506, the Stockton and San Bernardino Chapter 9 cases may provide an early glimpse into whether the statute is more bark than bite.

In the case of Stockton, holders and guarantors of city bonds have argued in court filings that Stockton’s Chapter 9 petition should be dismissed. They claim the city failed to engage in a “neutral” evaluation process because it did not seek any reduction in its pension liabilities to the California Public Employees’ Retirement System (CalPERs).

In ruling on these claims, the Stockton Bankruptcy Court may provide judicial guidance on what constitutes a neutral evaluation process, as well as insight into thorny issues...

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Stockton’s Creditors Challenge City’s Eligibility to File for Chapter 9 Protection

As expected, creditors of the City of Stockton, California have challenged the City’s filing for Chapter 9 Bankruptcy protection. Despite the fact that city representatives spent nearly 9 months in the pre-bankruptcy process trying to negotiate a resolution, four creditors have alleged that Stockton has not met its burden to prove that it is eligible to file for Chapter 9.

Historically, creditors have routinely sought to challenge municipalities’ eligibility to file in an attempt to get the bankruptcy case dismissed. Once a bankruptcy court rules that a municipality satisfies the eligibility standards, the municipality gains significant leverage in its negotiations with creditors. For example, once firmly in bankruptcy, the municipality can reject certain contracts and propose a plan to adjust its debts.

The objections asserted by the creditors include allegations that Stockton has failed to prove that it is “insolvent” as defined by Section 101 of the Bankruptcy Code; that it did not...

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