Pensions At Risk Nationwide After Ruling

NEW YORK – With dozens of U.S. cities struggling to cope with diminishing municipal tax revenues and rising city expenses, Detroit’s bankruptcy ruling sent shock waves through city employees and unions nationwide.

In a dramatic ruling Tuesday, U.S. bankruptcy Judge Stephen Rhodes said Detroit, the largest U.S. city ever to declare bankruptcy, is eligible to proceed with the city’s Chapter 9 filing. The decision clears the way for Detroit’s emergency manager, Kevyn Orr, to negotiate with approximately 100,000 creditors to bring the city out from under $18.5 billion in debt.

Moreover, Rhodes ruled that in reducing Detroit’s obligations to creditors, Orr is not required to give city pensioners a special, protected status under labor contracts with the city. That makes it virtually certain Detroit’s pensioners will receive sharp cuts in the retirement benefits they were promised under their labor contracts.

The Detroit Free Press reported Tuesday that Detroit’s 23,500 retirees were shocked and dismayed Judge Rhodes ruled the U.S. Constitution trumps Michigan’s constitution. The judge rejected an argument advanced by attorneys representing city pensioners that a clause in the Michigan constitution prevented pension benefits from being cut in a Chapter 9 filing.

“Pension benefits are a contractual obligation of a municipality and are not entitled to any heightened protection in bankruptcy,” Rhodes said.

The ruling put on notice cities with unfunded pension liabilities and pension benefits for municipal employees. Unlike corporate pensioners protected from loss by the federal Pension Benefit Guarantee Corporation, no protection from cuts will be afforded by clauses in a state’s constitution that may have been drafted to protect state and municipal employees against federal law in bankruptcy situations.

“I think it’s hugely important,” Robert Novy-Marx, an associate professor of finance at the University of Rochester’s Simon Business School, told the Detroit Free Press.

“In terms of the legal landscape, it clarifies the fact even pension benefits can be impaired. That very much changes the conversation that workers and municipalities are going to have going forward. Up until now, the workers have said we’re going to get paid no matter what. We’re not going to negotiate.”

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