Judge Rules City of San Bernardino Can File for Bankruptcy

Last week a federal judge ruled that the city of San Bernardino, California, is eligible to seek protection from its creditors under bankruptcy.

San Bernardino city officials originally filed for Chapter 9 bankruptcy protection in 2012, citing that they no longer had the cash to pay the debts owed by the city.  On Wednesday, United States District Judge Meredith Jury ruled in agreement with the city.

“I can’t see anything other than dissolving the city if they can’t file under Chapter 9,” Jury noted in her ruling.  “The city deserves a chance.”

Chapter 9 of the United States bankruptcy code is specifically reserved for cities to allow them to restructure their debts.

Judge Jury handed down her decision in federal court in Riverside, California, as part of a hearing concerning the legality of the bankruptcy filing.  Although the city has several hundred creditors who are affected by the bankruptcy filing, only the California Public Employees’ Retirement System, also known as CalPERS, formally opposed the bankruptcy.  San Bernardino owes CalPERS over $12 million in unpaid pension payments.

Attorneys for CalPERS were understandably disappointed as well as concerned about the ruling.

“It’s going to create incentives for debtors to create a crisis to determine they have an inability to negotiate with creditors, because they have a large number of creditors, and then walk into bankruptcy court without any intention to effect a plan,” noted CalPERS attorney Michael Gearin.

Gearin had argued to Judge Jury for denial of the bankruptcy request because it was not clear the city was insolvent and the filing was merely a way for the city to buy more time before making the payments it owed.  Attorneys for San Bernardino denied the allegation from CalPERS.

“It is an emergency room, not a health spa,” noted Paul Glassman, a bankruptcy attorney for the San Bernardino.  “To suggest that any city would subject itself to the process unless it had to is simply disingenuous.”

Judge Jury indicated her ruling was based on financial statements provided by the city.  While some of the arguments set forth by Gearin had merit, it was clear from the financial position of the city that it qualified for bankruptcy protection.

“The objective evidence tells me that the city desires to formulate a plan,” noted Judge Jury.  “It is their only hope and I recognize that.”

Representatives of CalPERS released a statement in response to the ruling, also indicating they had not yet decided if they would appeal Judge Jury’s ruling.

“CalPERS will… continue to work with the City of San Bernardino so it can hopefully resolve its financial problems and also deliver promised benefits to their city employees and retirees.  However, CalPERS must and will continue to aggressively pursue all past due contributions, resulting interest and penalties owed by the city.”

Pat Morris, mayor of San Bernardino, was thankful for the ruling.

“Her independent analysis, her carefully constructed ruling now makes it abundantly clear that the city needs and desires the opportunity to adjust its debts,” said Morris.

Other members of the city council were likewise happy with the outcome, as they saw the alternative being that the city would have to dissolve.

But Morris added that with the ruling the work toward a final solution had only begun.

“We’ve got to find agreement to not only keep our cash flow balanced but fund the resources to pay our creditors – CalPERS, our bondholders, our trade creditors – and assemble a substantial reserve that will insulate us from this kind of financial meltdown in the future,” Morris said.

Both sides have selected federal bankruptcy Judge Gregg Zive to serve as a mediator as the city lays out a financial plan going forward.  Meetings with Judge Zive are expected to begin by October, by when the city is tasked with having a draft plan available to present.

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Mark has been a contributor to legal web sites related to bankruptcy, tax, and criminal law since 2011. He has an Accounting degree from Texas A&M University.