September 2, 2014 at 1:00 am

Pivotal trial to begin for Detroit's bankruptcy

The legality of Detroit’s “grand bargain” — the linchpin of the city’s plan to dump $7 billion in debt in bankruptcy court — will be put to the test in a long-awaited trial set to begin today in federal court.

Two aggressive financial insurance companies facing a near wipe-out under Detroit’s plan have assembled a battery of legal arguments in an attempt to blow holes in the city’s plan to shield 32,000 pensioners from deep cuts in their monthly checks.

U.S. Bankruptcy Judge Steven Rhodes will begin hearing opening arguments from attorneys for Detroit and a team of supporting creditors about why they feel the plan is fair and equitable, and will bring lasting change to a city bureaucracy hampered by decades of population decline and an eroding tax base.

The trial marks a pivotal moment in Detroit’s nearly 14-month-long odyssey through bankruptcy court, which has been bookmarked by unprecedented efforts of private foundations, corporations and the state of Michigan to bailout the city’s pension funds and shield a municipal art collection from a fire sale to satisfy creditors.

Syncora Guarantee Inc. and Financial Guaranty Insurance Co., the backers of $1.4 billion in troubled pension debt the city wants to expunge from its books, were in late settlement negotiations with Detroit’s attorneys last week. The two creditors are prepared to argue at trial that the grand bargain’s infusion of $816 million over 20 years solely for pensioners in exchange for the art unfairly discriminates against them.

Both bond insurers face the prospect of losses of up to 94 percent on the investments they insured, while most city retirees would have to endure modest single-digit reductions in the monthly pension checks.

“If we were being treated fairly, we could probably swallow hard and get over the procedural unfairness,” said James Sprayregen, an attorney for Syncora. “They’re treating pensioners unbelievably and massively better than my clients.”

Despite all of the high-stakes posturing, bankruptcy court observers say a last-minute deal to avoid a protracted trial that could stretch into late October still remains possible. The Detroit News reported Saturday that city lawyers were holding weekend talks with Syncora about parting with city real estate to entice a pretrial settlement.

“If Syncora, who is one of the largest unsecured creditors, can be brought under control by being treated in a way that gets this plan of restructuring out of the courts, that is in everyone’s best interests,” said Jim McTevia, a Bingham Farms corporate turnaround specialist following Detroit’s bankruptcy case.

Though the trial is scheduled to begin today, the proceedings could get bogged down in objections from the holdout creditors and city over who will be allowed testify. Detroit has submitted a list of 26 witnesses that ends with Mayor Mike Duggan and includes Emergency Manager Kevyn Orr, Quicken Loans founder Dan Gilbert and auto executive Roger Penske.

Targeting grand bargain

For months, Syncora and FGIC have pushed for the city to sell portions or all of its multibillion-dollar art collection. But the terms of the grand bargain — as set out by private foundations and the state Legislature — call for the entire 60,000-piece collection to remain intact at the Detroit Institute of Arts.

Both insurers contend the grand bargain represents a $450 million present value for a world class art collection that could reap billions. Syncora has called the deal a “fraudulent transfer” designed to comfort “pensioners and mostly suburban patrons of the art.”

“If somebody robbed a bank to pay the pensioners, you wouldn’t say that’s appropriate either,” Sprayregen said.

Under the city’s plan, general retirees will receive a base reduction of 4.5 percent to their monthly pension, while some could see reductions total as much as 20 percent through Detroit’s attempt to recoup years of excess interest payments to retiree savings accounts.

The base pensions of retired police officers and firefighters will remain the same, but their annual cost-of-living inflationary raises will be reduced from 2.25 percent to about 1 percent.

Orr spokesman Bill Nowling said the city remains committed to the grand bargain deal it forged with foundation and DIA leaders, legislators and pensioners.

“We believe that it is the fairest way to actualize value for the art without leveraging or selling the art and it allows us to also protect our pensioners so that they do not receive double digit cuts to their pension benefits,” Nowling said Friday. “And we’re going to defend that strongly in court.”

Supporting the plan

One bankruptcy expert said a settlement would relieve Rhodes of making a precedent-setting ruling about whether Detroit and other future municipal debtors can discriminate against one creditor in favor of the other.

“I think if Syncora were to settle, that would significantly reduce the flaws (in Detroit’s plan),” said David Skeel Jr., a bankruptcy law professor at the University of Pennsylvania.

Mark Diaz, chairman of the Detroit Police & Fire Retirement System, intends to testify at the trial in support of the city’s plan. He’s also president of the Detroit Police Officers Association, which negotiated a new five-year contract that immediately boosts officer pay by 8 percent to make up for a 10 percent cut in 2012.

Over the life of the contract, officers will see their pay increase a total of 15.5 percent, Diaz said.

Diaz said that despite current and retired city employees getting spared deep cuts in their pensions, they’re still facing major reductions in retiree health insurance. The city’s plan effectively ends guaranteed lifetime health insurance benefits for 19,000 retirees by reducing a $4.3 billion unfunded liability to $450 million in payments to two new health care trusts.

“For any entity to say that these cuts were not severe enough for police officers who don’t pay into Social Security, it’s absurd,” Diaz said.
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