Constitution Check: Who wins the battle between federal and state courts over Detroit’s bankruptcy?

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General Motors building. Source: Library Of Congress

Lyle Denniston looks at which court system could ultimately decide Detroit’s financial future after its bankruptcy filing.

THE STATEMENT AT ISSUE:

“This is a very important issue.  I understand that there may be this question of moving it to federal court…But these are state issues.  We’re dealing with the state constitution and an emergency manager who is a product of the state legislation….I don’t believe the [state] constitution should be made of Swiss cheese.”

 – Rosemarie E. Acquilina, a county court judge in Lansing, Mich., in an order on Monday delaying temporarily a hearing on whether she will attempt to block the city of Detroit from going ahead in federal court with a plea for bankruptcy protection from its $18 billion in debt.

WE CHECKED THE CONSTITUTION, AND…

From the founding of the Republic, Congress has had the power to control when people or other entities that get deeply in debt can seek to make a fresh start by filing for protection from their creditors.   Under Article I, Congress was given the authority to pass “uniform laws on the subject of bankruptcies throughout the United States.”  The city of Detroit’s massive new bankruptcy claim is testing just what that grant of power means when a local government nears financial collapse.

Up until 1934, no one believed that city and county governments in deep financial trouble could file for bankruptcy.  This was something that happened to businesses and individuals, but not to agencies of government that supposedly had the power to raise taxes enough to keep themselves solvent.  Federal bankruptcy law was silent on the plight of local governments, but that changed in 1934, in one of Congress’s reactions to the widespread financial woes of the Great Depression.

Congress voted for the first time to allow local governments to pursue bankruptcy, and some of them jumped at the chance.  However, that law ran into constitutional trouble almost immediately, and the Supreme Court struck it down in 1936.   It did so in a divided decision in Ashton v. Camera County Water Improvement District.

“The power claimed in support of the act,” the majority declared, “necessarily implies power in the Federal Government to restrict the states in the control of their fiscal affairs.  Such authority is not found in the power of Congress to establish uniform laws on the subject of bankruptcies….If their obligations can be subjected to the interference here attempted, states and their political subdivisions are no longer free to manage their own affairs; the will of Congress prevails over them.”

That ruling, however, did not hold fast for long.   About two years later, in 1938, the Court decided the case of U.S. v. Bekins, and it changed its mind.  Congress in 1937 had passed a new law, and made it explicit that, if a state government gave its explicit consent, a local government could file for bankruptcy.   The Court upheld that law, ruling that, so long as the local government itself sought bankruptcy, and was not forced into it by its creditors, it could seek the benefit of the law when a state said it could.

Michigan officials, along with the emergency manager of Detroit’s financial affairs, were relying upon that 1937 law last week when they went into federal Bankruptcy Court in that city, to work toward a new plan that would allow the city to meet some of its ongoing urban obligations, but at the same time get some forgiveness from others.

Believing that one of the aims of the city’s bankruptcy plea was to set the stage to severely cut back on pension benefits earned by retired police, fire and other city workers, a series of lawsuits were filed in state court, trying to keep the city out of Bankruptcy Court.   The challengers were immediately successful, when a county judge in Lansing ruled that interfering with pension rights of city retirees would violate the state constitution.   The judge struck down a state law that gave the governor the authority to approve a bankruptcy filing by local governments.   Diminishing or impairing pension benefits, Judge Acquilina declared, violates guarantees under the Michigan constitution.

But the city was ready with a swift response.   On Monday, it filed a stack of motions in the Bankruptcy Court.  One of those was a direct plea for an order that would block all of the lawsuits seeking to head off the bankruptcy filing, and to stop any state court from interfering with that case.   Bankruptcy Judge Steven W. Rhodes is scheduled to hold a hearing on that request on Wednesday.

The retirees have countered with an argument that, while a bankruptcy case ordinarily leads to an automatic court order against any conflicting legal proceedings, that provision does not apply if the debtor – here, the city of Detroit – had no legal right to file for bankruptcy.  There is simply no right to block other proceedings, the retirees’ lawyers contended, if the city had no right in the first place to go to Bankruptcy Court – as Judge Acquilina had ruled.

The developing clash between federal bankruptcy powers and the Michigan state constitution is a reminder that national authority does not always go unchallenged at the state level, even though the Constitution’s Supremacy Clause, in Article VI, does tip the balance sharply in favor of national power.  And that may be especially true, when Congress’s authority over bankruptcy includes the explicit power to make it uniform among the states.

Thus, Judge Acquilina’s worry over whether the Michigan constitution is being turned to “Swiss cheese” may be a rhetorical exaggeration, but it might be close to legal reality.

Lyle Denniston is the National Constitution Center’s adviser on constitutional literacy. He has reported on the Supreme Court for 55 years, currently covering it for SCOTUSblog, an online clearinghouse of information about the Supreme Court’s work.

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