The bankruptcy judge overseeing the Chapter 9 municipal bankruptcy case of the City of Stockton raised the possibility that CALPERS – and ostensibly the City’s pensioners – may not have the claim to a one hundred percent recovery of what its pension system is owed. The giant pension system for the state’s public employees has steadfastly maintained that California’s Constitution prohibits the “impairment of contracts” but this judge, Christopher Klein has noted that “bankruptcy is nothing but the impairment of contracts.”
It appeared for some time that CALPERS would avoid the plight of pension funds for state employees in the City of Detroit where the largest municipal bankruptcy case in American history is itself ongoing. In Detroit police and fire department retirees expect to receive some slight cuts in benefits and other former public employees will probably see larger but still modest cuts to their benefit payments. In that context, U.S. Bankruptcy Judge Steven Rhodes ruled that Michigan’s state constitution does not supersede the applicability of federal bankruptcy law to the case. (As the case is still pending and no appellate review of that judge’s decisions has been rendered, it is not yet possible to assess whether such ruling would be upheld.)
In the Stockton bankruptcy one of its creditors, Franklin Resources, Inc. objected to the proposed exit plan. It argued that it is unfair because it fully pays CALPERS and city pensioners while giving two Franklin funds as little as 1 percent of the $36 million they are owed. Judge Klein appears somewhat sympathetic to the position as he questioned whether CALPERS claim to a $1.5 billion lien on city assets should the City default on its obligations to the system possesses validity.
These issues will not be resolved at least until October. The Court will hear arguments on the first day of that month. Analysts of public pension programs and students of municipal bankruptcy jurisprudence will be closely examining these proceedings. As these types of bankruptcies are incredibly rare relative to Chapter 13, Chapter 7 and Chapter 11 bankruptcies, prior case law does not provide a clear indication how the court may dispose of these issues. But considering Stockton’s alleged debt of $900 million to CALPERS constitutes by far the largest claim it faces, Judge Klein may see no alternative but to fashion a remedy that gives the “proverbial haircut” to the fund and its beneficiaries.
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