U.S. Bankruptcy Judge Christopher Klein ruled that Stockton will be allowed… (Justin Sullivan / Getty…)
A federal judge ruled Monday that Stockton is eligible for bankruptcy protection, but left the door open for CalPERS obligations to be part of negotiations in the coming phases of the bankruptcy.
Over the objection of creditors who argued the city could come up with more money, U.S. Bankruptcy Judge Christopher Klein said Stockton can move forward with a plan to reorganize debt. He twice stated that the creditors had acted in bad faith and had refused to pay their share of the costs for negotiations.
"The creditors got a big black eye today," said Karol Denniston, an attorney who helped draft the legislation that guided Stockton's mandated mediation before filing for bankruptcy protection. "Now the stage is set for the real dogfight."
In late June, Stockton became the nation's largest city to fail financially. At that time, all eyes were on the port city of 300,000 as experts warned the action could set off a string of similar filings among cash-strapped municipalities. Since then, a half-dozen cities have filed for Chapter 9 protection under the U.S. Bankruptcy Code, including the city of San Bernardino.
During the 90-day mediation period, Stockton's creditors refused to negotiate unless the city cut payments to the state pension plan, CalPERS.
By law, the negotiations were confidential, but that detail emerged during the three-day trial that concluded last week.
Klein said the creditors could not legally walk away from the table, but he left the door open for CalPERS obligations to be part of negotiations in the coming phases of the bankruptcy.
At issue will be whether U.S. bankruptcy law trumps California law, which says the pension plan must be funded.
The $900 million Stockton owes to the California Public Employees' Retirement System to cover pensions is its biggest debt -– as is the case with many cities in California.
Stockton slashed its police and fire departments, halted bond payments, cut employee benefits and adopted an emergency spending plan that cut many city services. But the city continues to pay into the state pension.
The city of San Bernardino, which filed for Chapter 9 municipal bankruptcy protection Aug. 1, stopped making payments to CalPERS, the city's largest creditor.
In December, a federal bankruptcy judge rebuffed an effort by the state's pension system to sue San Bernardino and force it to meet its $1.7-million-per-month obligation to public workers' retirement funds.
U.S. Bankruptcy Judge Meredith A. Jury said requiring the financially troubled city to make payments to CalPERS would be a "death knell" to San Bernardino's effort to rebound from financial ruin.
CalPERS had asked the bankruptcy judge to allow it to sue in state court to collect retirement contributions.
Stockton's bankruptcy is expected to be closely watched for precedent, and could be appealed as high as the U.S. Supreme Court.