Westfall Township, Pennsylvania filed a Chapter 9 bankruptcy petition in April, 2009 and the court confirmed a reorganization plan in March, 2010.  According to the law firm that handled the case:

Westfall Township, located in Pike County, PA, was saddled with a $20 million debt due to a prior government’s mistreatment of a developer.  Without the resources to pay anything close to the amount of that judgment, the township filed for Chapter 9 and was able to negotiate a settlement in the much more feasible amount of $6 million over 20 years without interest.

 “The Westfall Township case was a unique bankruptcy event because municipal reorganizations under the Bankruptcy Code are rarities in the U.S.,” said J. Gregg Miller, an attorney with Pepper Hamilton LLP.  “Filing for Chapter 9 in Pennsylvania requires cooperation between the federal bankruptcy court and the Pennsylvania governmental bureau in charge of financially distressed municipalities.

Pennsylvania is one of several states that have a distressed municipalities program.  Municipalities in these states are supposed to go to the state first, before they file in federal bankruptcy court. 

Why did the township file directly?  Act 47 as the Pennsylvania program is called, has two conditions that may allow a municipality to file bankruptcy directly.  First, the act of filing federal bankruptcy “shall be deemed to be a financially distressed municipality under the act.”  Hmmm. Sounds circular.  Second, if the municipality is in “imminent jeopardy of an action by a creditor, claimant or supplier of goods or services which is likely to substantially interrupt or restrict the continued ability of the municipality to provide health or safety services to its citizens.”  So there needs to be an imminent action against the municipality — not quite the Harrisburg situation at this point.

In the case of Westfall, there was a settlement with a developer a number of years ago that obligated the town to provide water and sewer services to the developer’s property.  The township never acted and the developer sued to get the town to act.  The court sided with the developer, and over time the obligation grew to $20 million. 

The state intervened in the case and the Department of Community and Economic Development appointed a coordinator to work with the township and the bankruptcy court to solve the problem.

Westfall doesn’t have bonds outstanding.  However, bank debt was modified by the bankruptcy court.  $2 million obligations to Dime Bank were suspended until April 10, 2010.  The loan term was extended for ten years at the same interest rate.  A note to Pennstar Bank for purchase of a truck was also extended for three years. 

Adverse settlements against small communities have led to Chapter 9 filings from time to time.  Looking through an official statement for outstanding litigation should be a basic part of an investor or analyst’s underwriting. 

By the way, Johnstown, Pennsylvania, which is under its fourth reorganization plan under Act 47 is considering a filing…see an interesting analysis of Johnstown and other Pennsylvania communities by the Allegeny Institute for Public Policy (conservative think tank) and their discussion of Chapter 9.