Bankruptcies, defaults, and other local government financial emergencies Page: 12
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and therefore be forced to shut down completely. Thus,
the district was left with a contract for pay raises, inadequate
state aid to meet its requirements, and a state
mandate to balance its budget. To make this even more a
Catch-22 situation, the district could not raise its tax
rates because of state tax lids.
On the expenditure side, the school district alleged
that it had already made major cost reductions and that
more were not feasible, especially in view of unions'
refusals to negotiate layoffs. Whether the district could
make additional reductions remained in dispute, but its
expenditures were severely constrained in the 1981 to
1983 period. The added costs of the pay raises in fiscal
1983 would have required an approximate 5% budget
reduction in other expenses, and another 5% reduction
in fiscal 1984.
As a result of its financial problems, the district refused
to give the pay raises required in the contract for
1983. Prior to the end of the fiscal year, however, an
arbitrator ruled against San Jose and ordered payment of
$3.5 million in raises. As a result, the district ended
fiscal year 1983 with expenditures exceeding revenues
and a general fund deficit. The general fund had cash on
hand of $1.4 million and owed trade creditors $0.5 million,
plus the $3.5 million owed for retroactive salary
awards. The district's claim of insolvency rested on its
1983 payables exceeding its year-end cash, and its inability
to raise sufficient funds in 1984 to fund a budget
that included additional pay increases required under
the collective bargaining agreement. The district asked
the bankruptcy court to allow it to reject its labor contracts
covering fiscal years 1982, 1983, and 1984, thereby
eliminating its 1983 deficit, and enabling it to balance
its 1984 budget.
The bankruptcy judge made two key rulings after the
initial bankruptcy filing. The first was that the 1983
deficit and the unbalanced 1984 budget constituted insolvency.
The second ruling declared that to maintain
basic school operations it was necessary to set aside the
pay raise provisions of the collective bargaining agreement
for 1983 and 1984. In making these decisions the
judge said, "My reason for all this is basically and simply
the imminent collapse of this whole school system.
It just isn't going to get any money out of the state or the
amounts that are necessary from the state in order to
operate, unless these contracts are rejected."
Both the labor associations and the district appealed
various portions of the judge's initial rulings. Nevertheless,
a bankruptcy plan to pay the debts existing on June
30, 1983, was filed by the district on February 7, 1984. It
proposed to divide the claims into five classes consisting
of: $10,000 of secured claims to be paid in full;
$100,000 of small claims to be paid in full; bond holders
to be paid in full; $3.1 million of employee retroactive
pay increases for 1983 to be paid in full; $480,000 of
unsecured general claims from 1983 to be paid in full;
and $8.0 million in 1984 claims, mainly resulting from
the rejected labor agreements, to be paid only to the
extent that there are excess revenues available in the
The sources of funds to pay the claims are $2.7 million
of excess revenues now determined after final audit to
be available from fiscal 1983; a special tax levy for bond
debt service only; $984,000 from sale of excess property
and $800,000 estimated to be available from excess revenues
in the 1984 budget.
If the bankruptcy plan is approved, it will result in the
employees covered by the labor contracts receiving their
full 1983 pay award, but not receiving the full amount
due them in fiscal 1984. The disclosure statement accompanying
the plan cites two key reasons for the district's
failure to meet its full 1984 salary obligations.
First, the district claims that,
An important factor in considering a plan involving
municipalities is the hardship on the public if
there is a reduction in essential services. In California
public education is just such an essential
service... Given its constitutional obligation, a
school district has a duty to take any fiscal action
necessary to continue to provide education.
Second, under the equal protection provision of the
California Constitution, the school district claims it
must not only provide education, but do so on equal
terms to the education provided in other school districts
in the state.
Thus, the San Jose School District claimed an undue
reduction in levels of service is sufficient basis for a
bankruptcy court to reduce its legal obligations to meet
its contractual obligations to its employees and no longer
claimed actual inability to balance its budget.7
Of the 21 municipal bankruptcy petitions filed in the
last 12 years, 14 were classified as special districts-and
all but one were water and/or sanitation districts. Ten of
these special districts were associated with real estate
developments where much of the planned construction
and other improvements did not occur. The underlying
revenue bases of the special districts created to serve
these developments were insufficient to meet the financial
obligations of the districts. As a result, the districts
were forced into bankruptcy. Two additional special
districts not associated with real estate developments
sought protection under Chapter 9 as a direct result of
inadequate revenue bases; their bankruptcies were primarily
caused by problems between the districts and
their respective private-sector contractors.
Bankruptcies Associated with
Real Estate Developments
Ten special districts filing for protection under Chap
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United States. Advisory Commission on Intergovernmental Relations. Bankruptcies, defaults, and other local government financial emergencies, book, March 1985; Washington, D.C.. (digital.library.unt.edu/ark:/67531/metadc1317/m1/22/: accessed January 20, 2019), University of North Texas Libraries, Digital Library, digital.library.unt.edu; crediting UNT Libraries Government Documents Department.