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California Bill Proposes Limits to Municipal Bankruptcy

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In 2010, the California state legislature revisited a bill that would restrict its ability to provide relief in the event of a municipal bankruptcy. Under the proposed law, California municipalities seeking to file for bankruptcy would first have to obtain approval from a state commission.

Chapter 9 of the federal bankruptcy law deals specifically with municipal bankruptcy. The policies outlined in chapter 9 offer room for repayment plans with creditors and limit the actions of debt collectors. However, chapter 9 also respects the sovereignty of state law, meaning that municipalities can only declare bankruptcy with state authorization. Many states allow municipalities to file for chapter 9 by statute without the need for case-by-case review.

When the California legislature revived Assembly Bill 155, state municipalities had fairly explicit authority to file for chapter 9 on their own terms, as stated in Government Code section 53760. Historically, this was interpreted as an authorization for municipalities to file for bankruptcy relief without any involvement from the state government.

The bill was first introduced in 2009, and it quickly passed in the Assembly, but faced some resistance in the Senate. On the final day of that year’s session, the bill was considered dead for the year with a promise of revival. In 2010, the bill again returned before the Senate. According to the proposed legislation, municipalities that are considering filing for chapter 9 would need to first receive approval from the California Debt and Investment Advisory Commission (CDIAC).

CDIAC approval would require municipalities to take a number of actions. They would need to demonstrate an inability to pay undisputed debts and show that all options had been exhausted prior to filing for chapter 9. In addition, municipalities would be forced to create detailed plans to restore fiscal solvency and itemize creditors, who could possibly seek damages as a result of the bankruptcy.

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