Detroit To Seek Judge’s Approval For Improved Deal With Big Banks

BY ALAN PYKE/Think Progress

Detroit’s high-priced bankruptcy lawyers think a revised deal that pays large banks almost 60 cents on the dollar will win approval from the judge who rejected a previous arrangementthat was even more generous to the banks.

The deal in question relates to $300 million in loans the city has to pay back to UBS and Bank of America. Emergency manager Kevyn Orr originally wanted to pay UBS and Bank of America roughly $230 million — between 75 and 82 cents on the dollar, according to The Bond Buyer — in a deal that U.S. Bankruptcy Judge Steven Rhodes rejected. At $165 million, the new deal is cheaper for the city, but that is no guarantee of Rhodes’ approval as the judge’s objections seemed to have more to do with the process than the price. Rhodes said the city made the deal “with a gun to its head,” and insisted that Detroit and the two banks not only renegotiate the terms of the deal but that they return to his courtroom prepared to show in detail how any deal with the banks is better for the city than its alternative, which is to sue to get the loans canceled outright.

While $300 million may seem minuscule next to a total of $18 billion in unpayable debts, this deal is central to the city’s bankruptcy plan. When Detroit made the loans in question it promised to use revenue from area casinos as a last resort repayment mechanism in the event of a default. Now bankrupt, the city needs that casino money to finance basic services and operations in the short term, making the resolution of this debt a high priority for Orr and his $28 million team of consultants and lawyers.

Because the debt is attached to that collateral, the megabanks are considered “secured creditors” and are therefore legally entitled to get a somewhat better deal than the city’s “unsecured creditors,” a category which includes more than 20,000 retirees who depend upon the modest pensions they were promised. Orr has proposed paying retirees about 16 cents on the dollar of what the city owes them, and has announced that retiree health insurance plans will be canceled in the new year.

Any improvement in the terms of Orr’s deals with secured creditors like UBS and Bank of America should in theory create space for his team to be less stingy in its eventual deal with pension funds. But Orr and other officials have been adamant that pensioners will have to accept cuts no matter what. That position isn’t merely unjust, given that retirees and pension promises did not cause the city’s financial problems despite Orr’s apparent efforts to exaggerate the pension funding gap. The cuts are also unwise for the city’s future economic prospects, which experts say depend primarily upon its ability to retain and concentrate its population.

UPDATE

A lawyer for Detroit’s pension funds said Thursday he will fight the new casino funds proposal, labeling it “far too rich” and “a huge windfall” for the banks.

Everything You Need To Know About Detroit’s Fight Between Investors And Retirees

BY ALAN PYKE/Think Progress

Two weeks ago, Detroit filed for bankruptcy protections, saying it is unable to pay back the roughly $18 billion it owes. The bankruptcy faces legal challenges from creditors who say emergency manager Kevyn Orr did not negotiate with them in good faith, and intended to steer the city into bankruptcy court. Emails from the winter involving Orr and state officials seem to support that claim. But if Orr can beat the legal hurdles and have the bankruptcy filing approved by a judge, the city will no longer need the approval of its creditors to repay less than what they are owed.

And then what happens? Here’s everything you need to know about who is owed what and how they might fair if the bankruptcy goes forward:

Who does Detroit owe? Detroit owes money to two broad categories of creditors: secured and unsecured creditors. The first, “secured” creditors, are those whose debt is backed by some kind of legal claim to a physical asset of the city. Detroit’s bond obligations relating to the water and sewer department (DWSD) is the largest example of “secured debt” on the city’s books, with over $5 billion in accumulated borrowing since the early 1990s. The water and sewer bonds are backed by the revenues that the city’s utility company brings in using the pipes built with the borrowed funds. Secured creditors generally get much better deals from bankruptcy proceedings than the organizations that don’t have liens on physical assets connected to the debt. The investment management firm BlackRock says the secured debts will be repaid in full. Indeed, Detroit is continuing to pay its secured debts during bankruptcy.

“Unsecured” creditors, on the other hand, face steep cuts. Detroit’s unsecured creditors include, but are not limited to, the current and former employees of the city – or more precisely, the pension funds that are supposed to pay those workers and their families in retirement. Detroit’s pension obligations are split into two funds, one for police and firefighters and the other for all other city employees. $5.7 billion in health and life insurance benefits for retirees are separate from the pension liabilities and are also unsecured.

The remainder of Detroit’s unsecured debt is owed to investors who bought the city’s debt over the years. Hedge funds have reportedly been buying up large amounts of these unsecured bonds. The bondholders, and the bond insurers who would have to pay out any difference between what Detroit pays and what the bondholders are owed, will have significant incentive to fight any effort to cut their payout. To minimize their own cuts, investors must push to maximize the cuts to pensions and retiree healthcare.

The Detroit Free Press published a list of the 20 largest unsecured creditors in the city’s bankruptcy filing, with the two pension funds in the top two slots – but the numbers from the filing are not necessarily correct.

How far behind is Detroit on funding its pension obligations? Detroit’s pensions are not particularly generous compared with other large cities, and the shortfall owes to a combination of demographics, bad management, andfinancial industry manipulation rather than extravagant promises to workers. The financial crisis also wiped out nearly a billion dollars in pension fund holdings.

But the size of the pension shortfall is in dispute. Before Kevyn Orr was appointed emergency manager, the pensions were well funded. The police and firefighter fund had assets worth 99.9 percent of its liabilities in 2011, and the general retirement fund was 82.8 percent funded. As recently as February, the city was $650 million short on the two accounts. But when Orr commissioned private actuaries to examine the city’s books, that unfunded pension debtjumped to $3.5 billion. Reuters municipal bond market expert Cate Long calls Orr’s calculations “pension voodoo.” Orr used non-traditional actuarial assumptions for his figures, which are supported by some in the profession. But the city’s previous estimates used revenue assumptions of about 8 percent annually, which is in line with the past 25 years of pension fund history and supported by the majority of actuaries.

Yet the actuarial differences alone can’t account for Orr’s figures showing a pension gap five times larger than traditional math shows, according to the Economic Policy Institute’s Monique Morrissey. Morrissey notes it’s impossible to check Orr’s math because the accounting firm he hired hasn’t published the “very rough preliminary guesstimates” used to write the emergency manager’s proposal.

What will determine the fate of the pensions? The actuarial dispute determines the size of the debt to retirees that will be factored into bankruptcy negotiations, but the future of Detroit retiree benefits is largely up to federal bankruptcy judge Steven Rhodes. Rhodes is still determining whether or not the city’s bankruptcy declaration is even valid, but if Orr’s case clears that hurdle the negotiations that follow over who gets paid when will be subject to Rhodes’ approval. As Ian Millhiser detailed last month, there are various legal obstacles to cutting pensions, including the Michigan Constitution’s specific pension protections. The state’s Republican Attorney General has pledged to defend retirees against cuts.

What is Detroit’s emergency manager proposing for pensioners and bondholders? The only clear blueprint so far for what Orr might seek in bankruptcy comes from a June pre-bankruptcy proposal. At the time, critics said the offer appeared designed to fail. When the city’s creditors rejected the deal, that shored up Orr’s case that he had tried to resolve the city’s finances but had no choice but bankruptcy. So there’s reason to think that the June proposal makes a poor guide to what any final resolution might look like. Retirees and bondholders alike had better hope so: The proposal would replace $11.5 billion in total unsecured debts with $2 billion split among the various creditors. For retirees, the plan includes unspecified “modification of benefits” for healthcare and “significant cuts in accrued, vested pension amounts” for all 30,000 active and retired participants in the system. Even taking Orr’s assertions about pension shortfalls at face value, and assuming “significant cuts” means over 50 percent, pension debts would still eat up more than half of that $2 billion proposal. That would leave little for bondholders – and gives investors and bond insurance companies a lot of reason to fight the bankruptcy.