What is Chapter 9 Bankruptcy?
Chapter 9 bankruptcy allows municipalities in financial difficulty to reorganize their debts and protect themselves from their creditors. This type of bankruptcy is relatively rare, although it can involve large debts. About 680 municipal authorities in the United States have applied for Chapter 9 protection over the past eight decades. By comparison, there were over 280,000 Chapter 13 filings in 2019 alone. If your city or another local municipality recently filed Chapter 9, here’s what you need to know about it.
What is Chapter 9 Bankruptcy?
Chapter 9 bankruptcy is a legal process that allows cities and other types of municipalities to restructure their debts without selling their assets.
A municipality may view bankruptcy as a last resort when it owes its creditors money but cannot pay. For example, the city could make a bad investment, become insolvent and subsequently miss payments to its pension recipients and loan officers.
But cities are not always allowed to declare bankruptcy. They must meet the eligibility criteria and have permission from their state government. Each state has its own process. Some allow municipalities to declare bankruptcy on their own, others require municipalities to take certain steps before filing, and some states do not allow Chapter 9 bankruptcy at all.
If the permission is granted by the state, the municipality can then file a petition with the federal government to restructure its debts. The filing of the petition triggers an automatic stay, which stops all collection actions against the municipal debtor. It can also protect municipal officials in certain cases.
Under Chapter 9, the municipality proposes a plan to repay its creditors. The plan should make repayment more affordable, so it may include:
- Lower the principal or lower the interest rate on the outstanding debt.
- Extend the term of the loan, which can reduce payments from the municipality.
- Refinance the debt by taking out a new loan on the best terms.
The municipality must file the necessary documents with the clerk of the bankruptcy court, who can move the case forward. But the court may decide that a Chapter 9 filing is inappropriate if the municipality does not meet the requirements or has more appropriate options.
The Chapter 9 timeframe can range from a few months to a few years, depending on the complexity of the case and the amount of debt owed.
Examples of Chapter 9 bankruptcy
Jefferson County, Alabama, filed for Chapter 9 bankruptcy in 2011 over a bad investment in a local sewer system. The county was $ 4 billion in debt – the largest municipal bankruptcy in U.S. history at the time – and its lawyers had to negotiate with more than 4,000 creditors.
But Detroit became the largest municipality in the United States to file for Chapter 9 bankruptcy in 2013. According to some estimates, the city owed $ 18 billion in debt to more than 100,000 creditors.
Chapter 9 bankruptcy eligibility requirements
Chapter 9 only applies to a “political subdivision or public body or instrument of a state”. Typically, this includes cities and towns, counties, tax districts, revenue-generating organizations such as road authorities, municipal utilities, and school districts. It does not apply to state governments.
To apply for Chapter 9 protection, a municipality must:
- Be permitted to file for Chapter 9 under state law.
- Being insolvent, which means that the municipality does not or cannot pay its debts.
- Be ready to develop a debt restructuring plan.
- Make a good faith attempt to negotiate a settlement with your creditors.
What is the difference between Chapter 9 and Chapter 11?
In Chapters 9 and 11, the debtor negotiates with his creditors to change the terms of his debts. The main difference between Chapter 9 and Chapter 11 bankruptcies is who can use them. While Chapter 9 applies to some government entities, Chapter 11 bankruptcy allows a business or individual to reorganize their debts and obligations. Many large US companies have sought Chapter 11 protection, including General Motors and United Airlines.
A bankruptcy court usually has broad powers over a Chapter 11 case, but it is limited when it comes to Chapter 9 cases. Municipalities are federally protected, so bankruptcy courts cannot take action. spending or other political decisions on behalf of the locality. The court’s role in a Chapter 9 case is only to approve the petition, confirm the plan and ensure that it is implemented.
When a city or other type of municipality files for Chapter 9 bankruptcy, it could motivate residents or businesses to leave, which would exacerbate budget problems. Government employees might worry about reduced wages, while residents might worry about cutbacks in services or abandoned public projects.
But it first helps to understand what chapter 9 is and how it is treated. If your municipality files Chapter 9, start following reports on the situation and attend public meetings if you can. Voicing your concerns and voting on issues can help you have a say in what happens next. From there, you can determine if Chapter 9 bankruptcy will affect you and how you can prepare.