Detroit ruling reveals pensions not protected in bankruptcy

As lawmakers in Springfield prepare to vote on a controversial pension reform plan, a federal bankruptcy court judge in Detroit issued a ruling that could have major consequences for government employees throughout the country. Dealing with numerous objections to the nation’s largest municipal bankruptcy, Judge Steven Rhodes ruled that pension debts were not given “extraordinary...

As lawmakers in Springfield prepare to vote on a controversial pension reform plan, a federal bankruptcy court judge in Detroit issued a ruling that could have major consequences for government employees throughout the country.

Dealing with numerous objections to the nation’s largest municipal bankruptcy, Judge Steven Rhodes ruled that pension debts were not given “extraordinary protection” under Michigan’s Constitution, and that pension plans could be reduced by a bankruptcy court.

The judge also ruled that Michigan’s emergency manager law, and its decision to allow the city to enter bankruptcy, were both proper under state law and the state constitution. The rulings clear the path for Detroit to enter bankruptcy, and also increase the likelihood that city pensions will be sharply cut as part of a restructuring plan for Detroit.

Like Illinois, Michigan has a provision in its state constitution that makes pensions enforceable contracts. Judge Rhodes ruled, however, that pension contracts, like most other contracts, can be modified in bankruptcy if doing so is needed to put the city on a sound financial footing.

Detroit government workers unions had argued that pensions could not be amended. The judge rejected that argument, setting a precedent that is likely to apply in Illinois.

The decision also weakens the value of any “guarantee” of pension funding, as a bankruptcy court could still reduce benefits in the event of a state or local government bankruptcy.

This is a very important ruling with major implications for any government agency that has unfunded pension liabilities. The effect this will have on Illinois is likely to be profound, but could be complicated. With so much at stake, all parties in Illinois that have an interest in pension reform – lawmakers, government workers and unions – would be well advised to put a vote on pension reform on hold long enough to work through Judge Rhodes’ ruling to understand how it will apply in Illinois. They should come back with a better plan that makes retirements more secure.

One thing is clear: Pension “guarantees” are not unbreakable. The need for real pension reform that gives workers more control over their own retirement funds is even greater now.