Towns and Counties Gone Bankrupt
Detroit ran out of time this week, filing for the largest municipal bankruptcy in U.S. history after being overwhelmed by $18 billion in debt.
When a company or individual files for bankruptcy, they are in a state of insolvency: Unable to pay their debts, they require legal protection to relieve or restructure outstanding obligations. Although it's much more common for these private parties to declare bankruptcy, public entities such as towns, counties and other municipal agencies in financial straits can also file for bankruptcy protection under Chapter 9.
"Bankruptcy is absolutely the last resort for municipalities and it is certainly not a cure-all," says Juliet Moringiello, professor of law at Widener University who specializes in bankruptcies, including Chapter 9. Municipal bankruptcies are handled on the federal level, so constitutional issues prevent judges from dictating how a state entity is run and thus the process cannot mandate actions such as tax increases, budget cuts, asset sales or the removal of local politicians.
Although the financial crisis played a major part the bankruptcies of many U.S. corporations, the number of municipalities filing for bankruptcy wasn't an outlier by historical standards. According to data from the American Bankruptcy Institute, there were 41 municipal bankruptcies, about eight per year, between 2007 and 2011, which is on par with average in the U.S. since 1980.
So how do these bankruptcies play out? Click ahead for some of the most notable examples of bankruptcies that hit U.S. towns and counties.
Updated 19 July 2013
Year of filing: 2013
With its bankruptcy filing, the city of Detroit has entered uncharted territory. It's a place that no major U.S. city has ever gone—but that could change.
Despite the uncertainties surrounding what's expected to be a hard-fought legal battle, the outcome promises to inflict more pain on Detroit's already-beleaguered residents, businesses, creditors, investors and city workers, whose pension plans may now be invalidated.
Year of filing: 2011
The capital city of Pennsylvania filed for protection in late 2011 after finding itself unable to cope with the costs of a revamp for a local incinerator. But a bankruptcy court later dismissed the petition, finding the city did not meet eligibility requirements for Chapter 9.
In May 2013, the city council voted again to file for bankruptcy.
Central Falls, R.I.
Year of filing: 2011
Central Falls, the smallest city in the state of Rhode Island, filed for Chapter 9 bankruptcy in August 2011.
Its economy began its decline in the 1970s with the departure of textile manufacturers, and between 1997-2000, at least 11 textile plants closed. In addition to the declining economy, the city had $80 million in pension obligations and retiree health benefits on its books, many of which were promised to police officers and firefighters. During this time, the city was significantly underfunded, with an annual budget of $17 million for these benefits, pushing it to file for bankruptcy. As part of a restructuring, pensions were slashed, workers were laid off, library funds were cut and the city closed a community center.
Jefferson County Ala.
Year of filing: 2011
In what had been the biggest such bankruptcy, Jefferson County, home to Birmingham, the state's largest city with 212,237 residents, opted to file for bankruptcy on Nov. 9, 2011, after the county failed to restructure over $3.1 billion in sewer bonds.
The bonds were issued following a 1996 incident where the federal government accused the county of leaking sewage into the area's river systems and required them to upgrade the sewers. The eventual bankruptcy resulted from not only the problems with the county's sewers, but also the overall economy, court rulings and political corruption, according to The Associated Press.
Year filed: 2009
Following several crippling lawsuits, Westfall, Pa., was pushed to file for Chapter 9 bankruptcy in early 2009. At issue was $20 million dispute over payments to a developer after the town's supervisors halted a 1,500-unit residential project.
At the time, Westfall was in good economic health, but the burden of the debt was too much for the 2,400-resident township, which had an annual revenue of only $1 million.
The bankruptcy allowed for the restructuring of the initial debt to a more manageable $6 million, which was to be repaid in $75,000 increments per quarter over 20 years. The town funded this through aproperty-tax increase that amounted to about $200 per year for the average homeowner. The circumstances of Westfall's bankruptcy are rare, since the town's obligations stemmed from a single large judgment, rather than debts owed to a multitude of creditors.
Year of filing: 2009
In the 1960s Prichard, Ala., was a booming town, but a shrinking middle class in subsequent decades took its toll on tax revenues. For years, the town was warned that its underfunded pension plan would dry up, leaving residents on the hook. In 2009, the forecasts proved true and the pension dried up. In response, Prichard simply stopped paying its 150 pension recipients.
After pensioners sued, the city considered bankruptcy protection as an option to forestall litigation. Eventually, the town was forced to file Chapter 9 on Oct. 28, 2009. This was the second time Pritchard declared bankruptcy. The first was a decade earlier, in 1999.
Year of filing: 2008
With a population of 116,000, the Bay Area city of Vallejo became the largest California at the time to file for bankruptcy. Starting in the fiscal year 2005-6, the city began running deficits, with expenditures exceeding revenues in its general fund by $3 million to $4 million per year and the fund projected to be depleted by June 2008.
During this time, it was reported that more than 75 percent of the municipal budget went toward personnel compensation and pension funds. The city could not reach an agreement with its creditors and ultimately incurred another $8 million in legal fees to file for bankruptcy.
Things just got worse after it filed for Chapter 9. Prostitution and crime surged as the police force was cut by 40 percent, while funding for public buildings like libraries, senior center funds and firehouses were cut. This all occurred in the beginning of the recession, where home values plunged and many found their homes underwater or were forced into foreclose.
Year of filing: 2007
Just a few weeks after the Oklahoma Legislature passed a bill that included a clause keeping the town of Moffett from issuing speeding tickets on a four-mile stretch on U.S. 64, the town filed for bankruptcy. The issuance of these speeding tickets was reported to account for 78 percent of the Sequoyah County town's revenue, crippling Moffett's ability to pay down $200,000 in outstanding debt.
On top of the town's sudden loss in revenue were allegations that now-deceased mayor, Billy Yandell,had incurred debt that was never disclosed to the village's board of trustees. Among the debts were credit purchases of $3,200 from Dell Computer, $4,900 from Lowe's Commercial Services, as well as $16,183 owed to AWA, a collection agency in Orange County, Calif. Moffett also owed $95,000 for two vehicles it had previously purchased. Court filings showed the town had $43,000 in assets and almost $200,000 in liabilities.
Desert Hot Springs, Calif.
Year of filing: 2003
The bankruptcy of Desert Hot Springs, Calif., began in 1990 when a local group of developers planned to purchase land and develop a mobile home park. The city declined to sign off on the agreement, and the developers sued under the Fair Housing Act. After appeals, the final judgment was in favor of the developers, awarding them about $3.1 million in 1995.
The judgment and law fees paralyzed the small city and forced it to file for bankruptcy in 2003. At this time, it was reported that legal fees, interest on bonds and the settlement itself ballooned to over $10 million.
Orange County, Calif.
Year of filing: 1994
One of the California's most populous and wealthy counties is a prime example of how poor investment management, not just poor investments, can bring a government's finances to its knees. At the center of the bankruptcy was former County Treasurer Bob Citron, who managed $7.6 billion in county investments from nearly 200 local agencies, including schools, cities and special districts. These entities were attracted by high rates of return promised and aggressively advertised by Citron.
Citron used and borrowed against the funds at his disposal to invest in derivatives, inverse floaters, reverse purchase agreements and long-term high yield bonds. According to the Public Policy Institute of California, interest income for Orange County amounted to 12 percent, versus 3 percent for other California counties, with the promise that in 1995 these investments would generate 35 percent of general fund revenues.
At the time, the fund borrowed $2 for every $1 invested, swelling to over $20 billion with leveraged bets on a low interest rate environment. However, when interest rates rose through 1994, the fund's investments began to rapidly lose value, and Wall Street lenders grew nervous about the county's ability to pay, denying $1.2 billion in short term loans. Fearing a run on the fund by public agency depositors and banks that held the deposits as collateral, the county declared Chapter 9 bankruptcy in December 1994 in order to solve its fiscal problems "in an orderly manner."
Citron resigned in December 1994, days before the bankruptcy filing. He later pleaded guilty to misappropriating funds.