SAN FRANCISCO — Stockton, Calif., has proposed a plan to slash more than $10 million of debt payments to help close its budget deficit while at the same time declaring bankruptcy.
The City Council will consider the “pendency” plan for next year’s budget on Tuesday, which would include filing for Chapter 9 protection if ongoing negotiations with creditors provide no solutions by Monday’s deadline, city officials said in statements Wednesday night.

Stockton’s plan would balance its budget mainly by cutting debt payments, which makes up 40% of the proposed reductions, to close an estimated $26 million general fund gap.

“Without restructuring of its finances in the AB 506 process or seeking the protection of Chapter 9, the city could not pay its employees, retirees, bondholders or vendors,” city manager Bob Deis said in a filing to the Municipal Securities Rulemaking Board’s online EMMA system Wednesday night. “Bankruptcy protection assures that this will not happen in Stockton, though it is clear that creditors will not recover 100 cents on the dollar for their claims.”

If it moves ahead with a bankruptcy, Stockton, with more than 300,000 residents, could become the largest city in the country ever to file for bankruptcy.

Debt service paid out of Stockton’s general fund has increased nearly six-fold to a projected $17 million in fiscal 2013 from $3 million in fiscal 2007, according to an earlier staff report.
Various other loan payments would also be scaled back as part of the proposed debt-service reduction. The majority of the rest of the proposed cuts, 38%, would come from reducing employee salaries and benefits, according to the staff report. City officials have reported that retiree health care costs could increase by 115% over the next 10 years, and pension costs by 94%.

According to the proposed plan, Stockton would withhold a $2.58 million payment on its 2007 variable-rate lease revenue bonds and a $5.7 million payment on its 2007 pension obligation bonds. The city also said it would continue to miss payments on its 2004 lease revenue bonds.
In an effort to stave off insolvency, Stockton has already let three sets of lease revenue bonds default after the city decided in February to stop paying its part on $110 million of par value of debt through the end of the fiscal year. Seven bond issues rely in some way on support from the city’s general fund.

As a result of the defaults, the city has lost control of three parking garages and an office building that had been slated to become the next city hall. Stockton lost a court case last month to Wells Fargo NA, the trustee of $40 million of bonds sold in 2007 that are backed by lease revenues from the building. That followed the city’s loss in April of the garages tied to $32 million of 2004 lease revenue bonds after it lost a similar court case.

City officials have also said that $55 million of variable-rate revenue bonds issued in 2010 by Stockton’s financing authority could be declared in default by Union Bank, the letter-of-credit provider on the debt, resulting in a mandatory tender. City officials have noted that the bankruptcy court could deem the default unenforceable.

Stockton’s general fund also backs the city redevelopment agency’s’s $13 million of housing certificates of participation sold in 2003 and $46 million of paper issued in 2004 to fund the events center. The city recently took over as the “successor agency” to the RDA following the dissolution of all California redevelopment agencies by a new state law last year.

The city had more than $702 million of bonds outstanding as of the end of June 2010, including debt issued for restricted enterprise funds such as water, sewer and parking enterprise debt, according to financial statements.

Stockton official have said the debt tied to restricted funds would be protected from the bankruptcy process. The City Council voted on Feb. 28 to enter into deliberations with creditors under last year’s Assembly Bill 506, which strongly encourages municipalities to try mediation prior to filing for Chapter 9 protection.

The mediation sessions, set up under terms of a recent state law designed to discourage bankruptcy filings, will end June 25. The talks were extended 30 days following 60 days of discussions. Confirmed participants in the mediation process include Wells Fargo, the trustee for several outstanding bonds, the California Public Employees Retirement System, and bond insurers and liquidity providers.

The creditors include the two main insurers of Stockton’s bonds, National Public Finance Guarantee Corp. and Assured Guaranty Corp. National, a subsidiary of MBIA Inc., insures $224 million of debt issued by the city, $89 million of which is tied to Stockton’s general fund.

Assured Guaranty said it is exposed to $150 million net par of Stockton’s bond debt.
Mammoth Lakes is the only other municipality in California using the AB 506 process to try to prevent bankruptcy.

Stockton has struggled with its budget for years since tax collections tumbled in the wake of the housing bust and the recession. The Stockton region’s unemployment rate tops 15%, according to the Bureau of Labor Statistics. In addition to its economic problems, Stockton has handed out rich retirement benefits and incurred large debts to fund a myriad of new facilities, including a downtown improvement project with a hockey arena, baseball park and the new city hall.

Stockton has also admitted accounting errors in past years that contributed to losses. The California controller’s office is conducting an audit of the city’s finances. Stockton still hasn’t released its audited finances for 2011.

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