A Detroit judge's ruling may open a path for cash-strapped California communities to fill potholes, illuminate streets and restore other public services.
Judge Steven W. Rhodes, who is presiding over the Motor City's bankruptcy, rejected claims that public employee pensions are untouchable. If the ruling is upheld on appeal, it will be a game-changer.
Public employees and pension funds, including the California Public Employee Pension System, contend that retirement benefits, including prospective benefits, are constitutionally guaranteed and cannot be reduced, even in a bankruptcy proceeding.
To cover soaring retirement costs, which in some places are approaching 50 cents on every payroll dollar, cities and counties in California and across the country have laid off workers and slashed spending on parks, street maintenance and other public services. A handful have filed under Chapter 9 of the federal bankruptcy code; others are weighing the possibility.
While collective bargaining has produced lower benefits for new employees, these cuts offer little in near-term savings. In past cases, local governments, including Vallejo, have elected to leave retirement benefits for existing employees untouched in bankruptcy proceedings.
Detroit took a different approach, seeking full flexibility in its "plan of adjustment," the formal plan to restore some public services — and solvency — by writing off a portion of the city's crushing $18 billion debt.
Retirement benefits also are the subject of court proceedings in San Bernardino, where CalPERS is seeking to block the city's bankruptcy filing because it could result in pension cuts.
California and Michigan have similar contract clauses in their state constitutions, and they are the source of claims that pensions can't be cut. Rhodes ruled to the contrary. He said the constitutional protections are outweighed by federal law, which allows debts to be reduced or abandoned with court approval.
"Pension benefits are a contractual right and are not entitled to any heightened protection in a municipal bankruptcy," Rhodes said.
With that ruling, leverage shifts from public employees to public employers.