San Bernardino Judge Streamlines Eligibility Contest

San Bernardino, California’s bankruptcy judge chose an unusual way to help decide whether the city should enjoy her court’s protection from creditors while it renegotiates debts.

Instead of scheduling a multiday trial with platoons of attorneys, a parade of witnesses and boxes of evidence, U.S. Bankruptcy Judge Meredith M. Jury will give a handful of lawyers a few hours today in her Riverside, California, courtroom to debate the city’s eligibility to file under the U.S. Bankruptcy Code’s Chapter 9, which covers municipalities.

Jury is streamlining the approach taken in the four other large municipal bankruptcies filed since 1998, those of Vallejo and Stockton, California; Jefferson County, Alabama; and most recently Detroit, which last month filed the largest ever Chapter 9 case.

Detroit is on track for an eligibility hearing in October, while Vallejo, Stockton and Jefferson County needed only weeks or months to convince judges they qualified for protection. San Bernardino, on the other hand, has waited more than a year to reach this stage.

“I can understand she may not want to have a lengthy trial on eligibility,” said attorney H. Slayton Dabney Jr., who represented creditors in the $4 billion Jefferson County bankruptcy. “That sounds like what she is trying to do.”

Court Fights

The San Bernardino case has been mired in court fights pitting the city against its creditors and the creditors against each other. One creditor’s law firm was kicked off the case because it hired an attorney away from another creditor’s firm.

The city and one of its biggest creditors, the California Public Employees’ Retirement System, can’t even agree which disputes a mediator should try to resolve.

Under Chapter 9, creditors, including unions, lenders and bondholders, can force a municipality to prove it’s eligible to remain in bankruptcy after a case is filed. Calpers, for instance, claims San Bernardino doesn’t qualify because it failed to negotiate in good faith with creditors before filing on Aug. 1, 2012.

Jury, who wrote the opinion for an appeals panel that upheld Vallejo’s eligibility, has chosen to hold a summary-judgment hearing using only facts that are already part of the case to decide whether San Bernardino met the law’s requirements when it filed. Lawyers will present arguments on the conclusions to be drawn from the evidence.

Arguments Only

A short, argument-only hearing may allow Jury to rule without the time and expense of a trial, said James Spiotto, a partner at Chapman & Cutler LLP in Chicago who has written and lectured on the law of municipal reorganizations.

If San Bernardino prevails, the city can begin negotiating with creditors and municipal unions to develop a plan to cut debt and reorganize some operations. Otherwise, Jury will probably schedule the more traditional non-jury trial seen in municipal bankruptcies, said Ron Oliner, who represents the city’s main police union.

“The procedure the court is employing, to determine eligibility by summary judgment, is unusual,” Oliner said in an e-mail. His client hasn’t taken a position on eligibility.

San Bernardino, a city of about 209,000 people some 60 miles (97 kilometers) east of Los Angeles, was the third California city to file for bankruptcy in a three-month span last year.

Fiscal Emergency

The city said a fiscal emergency, brought on by a $46 million budget shortfall, forced it to file despite a state law that normally requires towns and counties to negotiate with creditors first in a process overseen by a neutral arbitrator. By declaring an emergency, the city sidestepped that requirement.

The right to challenge whether a debtor is entitled to file is a key difference between municipal and corporate bankruptcy. Under Chapter 11, a corporation automatically gains the right to try to cancel contracts and seek other help from a court as soon as it files.

The case is In re San Bernardino, 12-bk-28006, U.S. Bankruptcy Court, Central District of California (Riverside).

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