DETROIT — A federal judge on Tuesday, December 3, formally declared Detroit bankrupt, a landmark ruling that clears the way for potentially sweeping cuts to city worker pensions and retirement benefits and for steep and possibly precedent-setting losses to the cash-strapped city’s bond holders.

The ruling by U.S. Judge Steven Rhodes, who cited the city’s dismal finances and $18 billion owed to a multitude of creditors in support of his decision, marks a watershed in the history of Detroit. Once known as the cradle of the U.S. auto industry, the arsenal of democracy and the birthplace of Motown music, Detroit now adds a negative new title: largest bankrupt city in U.S. history.

Detroit’s emergency manager, Kevyn Orr, in a news conference after the court hearing, said the city will seek to file a plan of readjustment – the city’s roadmap toward financial solvency – by early January. He said negotiations are continuing with unions “even now,” and called on all parties to bridge gaps in order to conclude Detroit’s bankruptcy and move back toward fiscal stability.

In a financial plan he had laid out prior to the bankruptcy filing, Orr had proposed offering unsecured creditors shares in a $2 billion note in exchange for $11 billion in unsecured debt. Orr declined to state on Tuesday whether that remains his plan, and also refused to say how much of a reduction he will seek from secured creditors.

Rhodes, in his ruling that Detroit is eligible, accepted the city’s contention that it is broke and that negotiations with its thousands of creditors were infeasible. That was enough to declare Detroit bankrupt under Chapter 9 of the federal bankruptcy code, Rhodes ruled. In a symbolic setback for the city, however, Rhodes found that Orr did not negotiate in good faith with creditors prior to the city’s July 18 bankruptcy filing.

“It is indeed a momentous day,” Rhodes said as he read aloud for more than an hour from a written statement in a packed courtroom. “We have here a judicial finding that this once-proud and prosperous city cannot pay its debts. It’s insolvent. It’s eligible for bankruptcy. At the same time it has an opportunity for a fresh start.”

Rhodes also said the city could cut pensions as part of the restructuring, ruling against an argument that Michigan’s constitution protects them from being slashed. However, Rhodes warned he will not rubber-stamp any pension cuts.

His ruling encompassed fine points of law as well as broad observations about Detroit’s fiscal health. He stated that his findings were informed by a breakdown in Detroit’s public infrastructure and rising crime rate. 

Detroit is burdened by $18.5 billion in debt as it struggles to provide even the most basic services to 700,000 residents. About 40 percent of the city’s streetlights do not work and about 78,000 abandoned buildings litter the city, whose population peaked at 1.8 million in 1950.

“The city no longer has the resources to provide its residents with basic police, fire and EMS services,” Rhodes said. He noted the average police response time is 58 minutes, more than five times the national average of 11 minutes.

“Without the protection of Chapter 9 the city will be forced to continue on the path it was on before this case,” Rhodes said later in his ruling.

The judge declined to stay the bankruptcy proceedings as potential appeals proceed through the courts. He also turned down an effort to allow any appeals of his ruling to go directly to the 6th Circuit U.S. Court of Appeals. Rhodes declared that motions to appeal the case must first be filed in bankruptcy court. He previously stayed all state court action in the case.

The American Federation of State, County and Municipal Employees Council 25 filed a notice of appeal of Rhodes’ ruling in the bankruptcy court. The appeal, expected to be joined by the city’s largest pension funds, claims the judge erred in ruling that federal bankruptcy law trumps public employee pension protections embedded in the Michigan Constitution.

With Rhodes’ ruling in hand, attention now turns to Detroit’s negotiations with creditors, retirees, unions and pension funds.

Detroit says about half its liabilities stem from retiree benefits, with $5.7 billion in liabilities relating to retiree healthcare and another $3.5 billion from pensions.

Likely cuts to retiree pensions and changes in healthcare benefits are at the heart of union concerns about Detroit’s bankruptcy. And a separate issue, the future of the collection of the Detroit Institute of Arts, a prized city asset, has drawn attention inside Detroit and around the world. The museum includes paintings by Vincent van Gogh and Henri Matisse, an original cast of Auguste Rodin’s “The Thinker,” and a fresco mural by Mexican artist Diego Rivera.

Orr, in remarks after Rhodes’ ruling on Tuesday, said only about 500 pieces of the museum’s collection might be affected by Detroit’s bankruptcy. He declined to offer any details but said an announcement will be made soon.

Some critics of Orr have claimed his position is undemocratic because it leaves elected officials like Mayor Dave Bing and the city council without power to set policy or make binding decisions.

Rhodes in announcing his ruling said asset sales or other one-time infusions of cash will not solve Detroit’s long-term financial troubles.                                                

— Reuters