Cities 101 -- Municipal Bankruptcy

The entire sector of municipal government debt is under $2 trillion according to Census Bureau figures from 2013[1]. This debt issuance comes from all 50 states comprising over 19,000 cities and towns, 3000 counties, 15,000 school districts and untold number of special purpose entities end enterprises such as water districts or ports authorities.

This debt is traditionally backed by bonds. Some municipal bonds are backed by a General Obligation (GO) pledge that all of the revenue-producing power of a general purpose government (a city, town, or village) can be used to service the debt.  But, a considerable amount of municipal debt is non-GO debt, sold to special purpose entities like hospitals and housing projects where revenues raised from the projects secure and service the debt.

Historically, the annual default rates for municipal debt are miniscule. An independent analysis by Governing magazine estimated only one of every 1,668 eligible general-purpose local governments (0.06 percent) filed for bankruptcy protection from 2008 through 2012. Excluding filings later dismissed, only one of every 2,710 eligible localities (not all states permit governments to file for bankruptcy) filed since 2008. The majority of filings have not been submitted by bankrupt cities, but rather by lesser-known utility authorities and other narrowly-defined special districts throughout the country.

Bankruptcy may be an option for some municipalities under Title IX of the federal Bankruptcy Code because municipalities are legal corporations, not sovereign entities. Eligibility for Chapter IX relief is narrowly tailored by several factors. States determine whether their municipalities, as "political subdivisions, public agencies, or instrumentalities of the state," may pursue this option. One key eligibility factor is that a municipality must be insolvent and unable to meet its obligations when they fall due.

Forbes provides a list of the five largest city and county bankruptcies to date. They are:

Detroit, Michigan, 2013, $18 billion

Jefferson County, Alabama, 2011, $4 billion

Orange County, California, 1994, $2 billion

Stockton, California, 2012, $1 billion

San Bernardino County, California, 2012, $500 million

Only Georgia legally prohibits its municipalities from filing under Chapter IX. The balance of the states either specifically authorize filings or establish certain conditions in combination with specific state actions concerning bankruptcy.

Sources

[1] 2013 State and Local Government Finances, Bureau of the Census, 2013, http://factfinder.census.gov/faces/tableservices/jsf/pages/productview.xhtml?src=bkmk

 

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