Pensions Can Be Cut In Bankruptcy: Judge’s Surprise Ruling In Detroit Chapter 9 Bankruptcy Case

Federal law allows pensions to be cut in Detroit’s bankruptcy, U.S. Bankruptcy Judge Steven Rhodes ruled on Tuesday, in a move that came as a surprise to the city, which has double the number of pensioners as employees. However, Rhodes said that he may not necessarily cut pensions as part of the city’s final reorganization plan, Detroit Free Press reported.

The ruling came as a blow to a commonly held belief that pensions are protected under state laws and are therefore uncontestable. The court’s decision is also likely to have implications for several other American cities including Chicago, Los Angles and Philadelphia, where pension costs have been hurting government spending on schools and law enforcement services among others, New York Times reported.

“Pension benefits are a contractual obligation of a municipality and not entitled to any heightened protection in bankruptcy,” Rhodes said, clarifying that federal Chapter 9 bankruptcy rules do not preserve pensions even though Michigan's state constitution protects them, according to Detroit Free Press.

Rhodes’ ruling is reportedly the first time a U.S. bankruptcy court has lifted pension protections, the Times reported, citing James Spiotto, a municipal bankruptcy lawyer with the Chicago firm of Chapman & Cutler, which was not involved in the case.

One union appealed against the ruling on Tuesday, while other unions said they are considering filing appeals with an eye on the city's reorganization plan, the Times reported.

Chapter 9 bankruptcies mandate a reorganization plan under which the city can adjust its debts, typically through extending debt maturities and reducing the interest amount or re-financing the existing debt with new borrowing.