Chapter 9 Bankruptcy

Bankruptcy Relief for Municipalities (Towns, Cities and Counties)

Chapter 9 bankruptcy provides financially distressed municipalities (including towns, cities, school districts and counties) protection while they create feasible plans to repay their creditors. While under the protection of the bankruptcy court, municipalities must reorganize their debts in order to repay their creditors in the near future. During this time, creditors may extend the dates upon which debts are due or reduce the amount of interest and/or principals owed. Municipalities may also refinance their debt by obtaining a new loan.

Because Chapter 9 bankruptcy addresses the debt of municipalities, it must act within the boundaries of the Tenth Amendment to the U.S. Constitution. In order to avoid interfering with the sovereignty of the states and their right to manage their internal affairs, it does not allow for the liquidation of non-exempt assets to repay creditors and the bankruptcy court is limited in its involvement in these cases.

A History of Municipal Bankruptcy

Municipal bankruptcy legislation was initially enacted in 1934 during the Great Depression. However, the act was found to be unconstitutional with the Supreme Court ruling in the 1936 case of Ashton v. Cameron County Water Improvement Dist. No. 1. The Supreme Court found that the act interfered with the sovereignty of the states, in violation of the Tenth Amendment to the Constitution. A revised Municipal Bankruptcy Act was therefore enacted in 1937, and this has been amended several times since.

Chapter 9 bankruptcy cases are rare, with only 192 petitions filed from 1990 through the end of 2010. This is in stark contrast to the well over 1 million petitions filed in 2010 alone under Chapter 7 of the Bankruptcy Code.

Though they are rare, Chapter 9 bankruptcy cases may involve exorbitant amounts of debt. Perhaps one of the most notable Chapter 9 bankruptcy cases was the 1994 filing by Orange County, California, which involved millions of dollars in municipal debt. In the fall of 2011, Jefferson County, Alabama filed the largest municipal bankruptcy case in history, listing more than $1 billion in assets and debt.

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