01 October 2013

Detroit Pushing the Envelope

I've previously observed here that a decision by the city of Stockton, California to pay pensions more than bonds illustrates a conundrum with Chapter 9 of the Bankruptcy Code. Today, Reuters reports here (warning: may be behind a paywall) that Detroit is about to reveal another intra-Code conflict.

The report states that Detroit intends to default on payment of bonds that are to be paid from a specific, voter-approved tax levy. Such a dedicated source of payment suggests that the bonds are secured by a stream of income and the Bankruptcy Code provides that secured bond claims "remain subject to" any lien regardless of the Chapter 9 filing. Bankruptcy Code § 928(a). Would thus seem to be a slam dunk for the bondholders (or their insurer): Make the city pay.

But not so fast. Bankruptcy Code § 904 limits court jurisdiction: "The court may not, by any stay, order, or decree ... interfere with ... (2) any of the ... revenues of the " city. And lest you think this provision should never have been part of Chapter 9, go back and read the Tenth Amendment that reserves to the States (and their subdivision, cities) all powers not delegated to the United States. And remember that the Supreme Court protected States from federal power under just such circumstances in Ashton v. Cameron County Water Improvement Dist. No. 1, 298 U.S. 513 (1936).

It thus appears that we have a right without a remedy unless the Bankruptcy Court is willing to dismiss the case, and one can hardly expect the court to take such a drastic step at the outset of the most important municipal bankruptcy in U.S. history.

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