Jefferson County, Alabama Sets Record with Chapter 9 Bankruptcy

Birmingham - Jefferson County, Alabama declared the largest municipal bankruptcy in U.S. history this week. The debt stems from an upgraded sewer system.

Jefferson County, Alabama, which includes the cities of Birmingham, Bessemer, and most of Hoover, filed the largest municipal bankruptcy in U.S. history this week, acknowledging over $4 billion in debt in their Chapter 9 bankruptcy filing. Jefferson County's bankruptcy is more than twice the size of the former record-holder, Orange County, California. Back in 1996, after a lawsuit, Jefferson County entered a consent decree to stop dumping raw sewage into the Cahaba River. Several dozen different sewer systems were then merged into one county-wide sewer system in an effort to comply with the Clean Water Act. Some called the federal action an unfunded mandate. Initially, the cost was expected to be around $1 billion, but costs got out of control. For starters, the County attempted to manage the massive construction of wastewater treatment plants and pipelines with engineers who had never handled projects of this magnitude. The engineers and contractors started to tunnel under the Cahaba River multiple times, but after spending 200 million dollars, they decided not to tunnel under the river. There were multiple delays in construction and resulting cost overruns. Many different outdated sewer systems were merged into one massive system. To finance the sewer system, the County borrowed money from Wall Street bankers in one of the most complicated municipal bond arrangements ever conceived. To supposedly lower the interest rate on the bonds, bond deals contained interest rate swap agreements. Very few people today understand all of the financial intricacies and derivatives. Insurance was purchased to cover the risk. When things started getting tough, the insurers of these deals realized that if they had to make good on the bonds, they themselves would go broke. This caused interest rates on the bonds to go up. But there was one catch on the bankers getting their money: the bonds were not general obligations of the County, but only special revenue bonds payable out of the sewer system’s revenues. Political corruption made everything worse. Federal prosecutors convicted several contractors of paying bribes to Jefferson County Commission members and others. A prominent bond broker and a lobbyist who held high positions in the Democratic Party were sent to prison, along with a former Commission member who later became the mayor of Birmingham. But they also convicted some Republicans. At one point, an accused defendant complained that there were not enough criminal defense lawyers available given all the political corruption prosecutions. One or more Wall Street firms were accused of fraud in connection with the re-financing of the sewer debt. Recriminations have flown hot and heavy ever since the storm broke during the last major credit crisis. But the news out of Jefferson County is not all bad. The Cahaba River was cleaned up and is now one of the most scenic canoe routes in the nation. The stretch though Jefferson County is particularly beautiful. Paddling cynics have been known to take back everything they ever said about tree huggers. And if you’ve visited Orange County, California lately, you can tell they are doing better than most parts of the world.