Bloomberg News

Jefferson County Bankruptcy Allowed Under Alabama Law

March 05, 2012

Jefferson County’s bankruptcy is authorized under Alabama state law, a federal judge ruled, rejecting demands by creditors that the biggest U.S. municipal bankruptcy be thrown out.

U.S. Bankruptcy Judge Thomas B. Bennett in Birmingham said in a ruling issued yesterday that the county met the last of a five-part legal test to determine whether the bankruptcy was authorized.

The victory means county officials can begin drafting a plan to adjust debts of more than $4 billion that may include cutting what it pays creditors. Should creditors appeal, a judge would have to decide what actions the county can pursue in bankruptcy while a higher court reviews the ruling.

Jefferson County filed for bankruptcy in November, after county, state officials, a court-appointed receiver and bondholders failed to implement a tentative agreement that would have required its sewer debt to be cut by about $1 billion.

Jefferson County’s bankruptcy was opposed by Bank of New York Mellon Corp., the trustee for the sewer debt, and creditors JPMorgan Chase & Co. (JPM), which owns more than $1 billion of the sewer warrants, Bank of America Corp. and Assured Guaranty Municipal Corp. A group of taxpayers who are suing Jefferson County also sought to dismiss the bankruptcy.

Alabama Law

Creditors had argued that Alabama’s law requires cities and counties to have issued bond debt in order to be eligible for bankruptcy. The U.S. Bankruptcy Code allows states to set limits, or even bar, their cities and counties from filing for bankruptcy.

Because Jefferson County’s long-term debts were called warrants, not bonds, in all legal papers, Alabama law prevented the bankruptcy, creditors argued.

Bennett disagreed and ruled the county’s bankruptcy was legal. That was the only remaining question about the legality of the case, Bennett said in his ruling.

David E. Lemke, a lawyer for BNY Mellon, didn’t immediately return a call for comment on the ruling left at his office after regular business hours yesterday.

The county’s sewer system doesn’t collect enough money to pay obligations on more than $3 billion in related debt. Since the Nov. 9 bankruptcy filing, the county has battled bondholders and the sewer system’s receiver for control of the system and its finances.

Petition Thrown Out

One Alabama town, Prichard, had its bankruptcy petition thrown out by a bankruptcy court judge because its debt didn’t include funding bonds. After Prichard appealed, a federal district court judge asked the Alabama Supreme Court about the dispute over bonds and warrants.

Jefferson County contended that limiting the bankruptcy option in Alabama to municipalities with bonds would be “absurd.”

“Were the objectors’ argument the law, a county struggling to service $3 billion in bond debt would be authorized to declare bankruptcy, but a county struggling to pay the same $3 billion in warrant obligations would not,” the county argued in court papers filed Dec. 13.

Creditors argued that bonds and warrants are different under Alabama law, in part because bonds can only be issued after a vote of residents, while warrants can be authorized by elected officials.

Bondholders’ Request

Bondholders asked Bennett to dismiss the bankruptcy, which gives the county the right to stop paying some bills temporarily while it reorganizes its finances. Under Chapter 9 of the U.S. Bankruptcy Code, the county may seek court approval for a plan to reduce what it owes creditors.

Jefferson County was the 13th entity to file a Chapter 9 bankruptcy in 2011. Three other filings were by municipalities: Boise County, Idaho; Central Falls, Rhode Island; and Harrisburg, Pennsylvania.

The rest were special-purpose districts and public-benefit corporations. A bankruptcy judge dismissed Harrisburg’s case, saying it wasn’t properly authorized under state law.

The case is In re Jefferson County, 11-05736-9, U.S. Bankruptcy Court, Northern District of Alabama (Birmingham).

To contact the reporter on this story: Steven Church in Wilmington at schurch3@bloomberg.net

To contact the editor responsible for this story: John Pickering at jpickering@bloomberg.net


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