California Dreaming? CalPERS Seeks Payment in Full of All Pension Obligations During Pendency of San Bernardino’s Chapter 9 Case

by Cadwalader, Wickersham & Taft LLP
Contact

[author: Thomas Curtin]

California has seen a string of three Chapter 9 filings this year and faces a long line of distressed municipalities. Given this backdrop, the California Public Employees’ Retirement System (“CalPERS”) figures to play a prominent role in the resolution of many of these situations (in or out of bankruptcy). Thus, the bond‑buying public will scrutinize closely any steps that CalPERS takes to protect its claims in the Bankruptcy Court.

In late November, CalPERS filed a motion in the San Bernardino Chapter 9 bankruptcy, seeking to lift the automatic stay to pursue payment in full of outstanding pension obligations of the city’s employees or, alternatively, for the appointment of a receiver to ensure those payments. In re City of San Bernardino, California, (Bankr. C.D. Cal. November 27, 2012) Case No. 12‑blk‑28006‑MJ) (Docket No. 228). The motion will likely ripple through the California municipal bond world and have ramifications in numerous cases.

San Bernardino, a city with over 210,000 residents, commenced its Chapter 9 case on August 1, 2012. Like other municipalities in California, the city’s filing and financial distress were precipitated by falling revenues, an unsustainable capital structure, and mounting pension costs. Unlike Mammoth Lakes and Stockton (which also filed for Chapter 9 in 2012), San Bernardino did not negotiate with its creditors prior to filing for Chapter 9, as required under AB 506, a state statute that sets parameters for a municipality’s eligibility to file under Chapter 9. Instead, the city was the first to use another provision of AB 506 that permits municipalities to file for Chapter 9 by declaring a fiscal emergency. San Bernardino has also missed $6.9 million in pension payments to CalPERS after filing for bankruptcy.

In October 2012, CalPERS and a city employees’ union filed a preliminary objection to San Bernardino’s eligibility to file as debtor under Chapter 9 of the Bankruptcy Code, arguing, among other things, that the city did not satisfy the statutory predicates of AB 506 and that its pendency plan is unfeasible because the city is unable to pay its expenses. That dispute is currently pending, as is a similar dispute in the Stockton bankruptcy. CalPERS subsequently filed its motion to lift the automatic stay.

CalPERS, in its motion, has taken aggressive positions, arguing that, inter alia, (i) the automatic stay does not apply to CalPERS, because CalPERS is a state actor acting consistent with the state’s “police power” and is otherwise protected by section 903 of the Bankruptcy Code; and (ii) to the extent the automatic stay applies, cause exists to lift the stay because the City has violated state law and must pay the pension obligations it owes to CalPERS (as administrative claims). At first blush, each of these arguments could present a rough path for CalPERS.

Police Power. Federal bankruptcy law generally trumps state law. One exception arises with respect to the state’s so‑called “police powers.” Typically, the Bankruptcy Code cannot override state statutes designed to permit the enforcement of regulatory and criminal law against a debtor. Section 362(b)(4) of the Bankruptcy Code provides an express exception to the Bankruptcy Code’s automatic stay to enforce these powers.

In its lift stay motion, CalPERS argues that its right to be paid for pension benefits constitutes a state police power because, as a statutorily created entity, the organization is an “arm of the state.” CalPERS further contends that, as an arm of the state, its ability to litigate and enforce state labor laws falls within the purview of section 362(b)(4). At first blush, while untested in this context, CalPERS’ argument stretches the limit of the police power exception. CalPERS is not enforcing any criminal or regulatory law, but rather a contractual payment obligation under pension plans that it administers.

Section 903. Section 903 of the Bankruptcy Code states:

This chapter does not limit or impair the power of a State to control, by legislation or otherwise, a municipality of or in such State in the exercise of the political or governmental powers of such municipality

CalPERS argues that section 903 of the Bankruptcy Code requires that the City continue to pay all obligations owed to CalPERS. However, the Bankruptcy Court in Stockton’s Chapter 9 case recently held that the protections of section 903 of the Bankruptcy Code do not permit states to “condition or to qualify, i.e. to ‘cherry pick’ the application of the Bankruptcy Code provisions that apply in Chapter 9 cases after such a case has been filed.” In re City of Stockton, 2012 WL 3193588 (Bankr. E.D. Cal. Aug. 6, 2012). The Court in San Bernardino may similarly hold that CalPERS is not entitled to treatment different than other creditors due to relevant state law, once the State elected to permit San Bernardino to file for Chapter 9. Moreover, on its face, section 903 is drafted to protect the municipality, not other entities.

Lift the Stay. As for CalPERS’ efforts to lift the automatic stay, there is little (if any) legal support for the notion that a court should lift the automatic stay because a debtor owes administrative obligations to creditors. Administrative claimants are entitled to payment in cash, in full, as part of a plan.  At this point San Bernardino has not reached the plan stage, and thus, CalPERS’ argument appears meritless.

Federal/State Law Conflict. This leaves only CalPERS’ argument that the court should lift the stay because the City’s failure to pay its obligations to CalPERS violates California state law. This is, naturally, a completely untested theory and one that pits the Supremacy Clause of the U.S. Constitution (stating federal law including the Bankruptcy Code trumps state law) against the 10th Amendment to the Constitution (which reserves for states all rights not granted to the Federal government). This fundamental Federalism question is the type that frequently goes to Circuit Courts (and beyond) for final resolution and thus is very hard to predict.

The positions taken by CalPERS are extremely aggressive and novel. Most appear easy to dismiss. The remainder turn on complex constitutional questions beyond the territory bankruptcy courts typically occupy. However, the result of this case could have widespread implications in the three pending California bankruptcies as well as the many other distressed California municipalities. A hearing on CalPERS’ motion is scheduled for December 21.

CWT will continue to track this matter.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

© Cadwalader, Wickersham & Taft LLP | Attorney Advertising

Written by:

Cadwalader, Wickersham & Taft LLP
Contact
more
less

Cadwalader, Wickersham & Taft LLP on:

Readers' Choice 2017
Reporters on Deadline

"My best business intelligence, in one easy email…"

Your first step to building a free, personalized, morning email brief covering pertinent authors and topics on JD Supra:
Sign up using*

Already signed up? Log in here

*By using the service, you signify your acceptance of JD Supra's Privacy Policy.
Privacy Policy (Updated: October 8, 2015):
hide

JD Supra provides users with access to its legal industry publishing services (the "Service") through its website (the "Website") as well as through other sources. Our policies with regard to data collection and use of personal information of users of the Service, regardless of the manner in which users access the Service, and visitors to the Website are set forth in this statement ("Policy"). By using the Service, you signify your acceptance of this Policy.

Information Collection and Use by JD Supra

JD Supra collects users' names, companies, titles, e-mail address and industry. JD Supra also tracks the pages that users visit, logs IP addresses and aggregates non-personally identifiable user data and browser type. This data is gathered using cookies and other technologies.

The information and data collected is used to authenticate users and to send notifications relating to the Service, including email alerts to which users have subscribed; to manage the Service and Website, to improve the Service and to customize the user's experience. This information is also provided to the authors of the content to give them insight into their readership and help them to improve their content, so that it is most useful for our users.

JD Supra does not sell, rent or otherwise provide your details to third parties, other than to the authors of the content on JD Supra.

If you prefer not to enable cookies, you may change your browser settings to disable cookies; however, please note that rejecting cookies while visiting the Website may result in certain parts of the Website not operating correctly or as efficiently as if cookies were allowed.

Email Choice/Opt-out

Users who opt in to receive emails may choose to no longer receive e-mail updates and newsletters by selecting the "opt-out of future email" option in the email they receive from JD Supra or in their JD Supra account management screen.

Security

JD Supra takes reasonable precautions to insure that user information is kept private. We restrict access to user information to those individuals who reasonably need access to perform their job functions, such as our third party email service, customer service personnel and technical staff. However, please note that no method of transmitting or storing data is completely secure and we cannot guarantee the security of user information. Unauthorized entry or use, hardware or software failure, and other factors may compromise the security of user information at any time.

If you have reason to believe that your interaction with us is no longer secure, you must immediately notify us of the problem by contacting us at info@jdsupra.com. In the unlikely event that we believe that the security of your user information in our possession or control may have been compromised, we may seek to notify you of that development and, if so, will endeavor to do so as promptly as practicable under the circumstances.

Sharing and Disclosure of Information JD Supra Collects

Except as otherwise described in this privacy statement, JD Supra will not disclose personal information to any third party unless we believe that disclosure is necessary to: (1) comply with applicable laws; (2) respond to governmental inquiries or requests; (3) comply with valid legal process; (4) protect the rights, privacy, safety or property of JD Supra, users of the Service, Website visitors or the public; (5) permit us to pursue available remedies or limit the damages that we may sustain; and (6) enforce our Terms & Conditions of Use.

In the event there is a change in the corporate structure of JD Supra such as, but not limited to, merger, consolidation, sale, liquidation or transfer of substantial assets, JD Supra may, in its sole discretion, transfer, sell or assign information collected on and through the Service to one or more affiliated or unaffiliated third parties.

Links to Other Websites

This Website and the Service may contain links to other websites. The operator of such other websites may collect information about you, including through cookies or other technologies. If you are using the Service through the Website and link to another site, you will leave the Website and this Policy will not apply to your use of and activity on those other sites. We encourage you to read the legal notices posted on those sites, including their privacy policies. We shall have no responsibility or liability for your visitation to, and the data collection and use practices of, such other sites. This Policy applies solely to the information collected in connection with your use of this Website and does not apply to any practices conducted offline or in connection with any other websites.

Changes in Our Privacy Policy

We reserve the right to change this Policy at any time. Please refer to the date at the top of this page to determine when this Policy was last revised. Any changes to our privacy policy will become effective upon posting of the revised policy on the Website. By continuing to use the Service or Website following such changes, you will be deemed to have agreed to such changes. If you do not agree with the terms of this Policy, as it may be amended from time to time, in whole or part, please do not continue using the Service or the Website.

Contacting JD Supra

If you have any questions about this privacy statement, the practices of this site, your dealings with this Web site, or if you would like to change any of the information you have provided to us, please contact us at: info@jdsupra.com.

- hide
*With LinkedIn, you don't need to create a separate login to manage your free JD Supra account, and we can make suggestions based on your needs and interests. We will not post anything on LinkedIn in your name. Or, sign up using your email address.