Question

The city of Detroit, Michigan, filed for Chapter 9 bankruptcy on July 18, 2013, which was the largest municipal bankruptcy filing in U.S. history by the amount of the debt. It caused a big turbulence in the communities involved and questions rose as to how the management and accounting system could have helped the city to prevent or alleviate the financial tragedy. From the teaching perspective, the bankruptcy serves as a realistic example to discuss debt levels, property tax collections, dysfunctional city services and other related issues. For this purpose, two basic articles are assigned to the class for them to research the financial crisis and learn how the city has been trying to evolve from the crisis. Also, students are required to obtain copies of the 2012 and 2014 CAFR to compare the financial condition of the city before and after the bankruptcy. Other resources are allowed as they are pertinent to the research but need to be correctly cited. Finally, a research report and presentation are required to address the following questions comprehensively.

1) Describe and discuss five major factors that have led to the city’s bankruptcy. How are the problems specifically related to our class contents?

2) How much total liabilities did the city have before and after the bankruptcy? What are the major types of liabilities?

3) Describe how the federal government, local governments, and the community are trying to save and revive the city. Are these actions working?

4) Describe the recent property tax issue faced by the city and how it impacts the city’s budget and financial condition.

5) Study the 2014 financial statements carefully, then calculate the property tax revenue as a percentage of the total revenue in the governmental funds. What is the largest and second largest revenue sources for the city’s general fund?

6) For fiscal year 2014, what are the three largest expenditures in the governmental funds? Calculate their percentages to the total expenditure of the governmental funds.

7) Both the governmental funds and enterprise funds have deficits (the difference between assets and liabilities is negative). How can you explain this, and what has the city done to improve these cumulative deficits?

8) Are there other observations and comments for the city that you would like to present?

Answer 1

Please mentioned below the answers :

Q 1 ) Describe and discuss five major factors that have led to the city’s bankruptcy. How are the problems specifically related to our class contents?

Ans : Bankruptcy is a legal proceeding involving a person or business that is unable to repay their outstanding debts. The bankruptcy process begins with a petition filed by the debtor, which is most common, or on behalf of creditors, which is less common. All of the debtor's assets are measured and evaluated, and the assets may be used to repay a portion of outstanding debt.

• Bankruptcy is a legal proceeding carried out to allow individuals or businesses freedom from their debts, while simultaneously providing creditors an opportunity for repayment.
• Bankruptcy is handled in federal courts, and rules are outlined in the U.S. Bankruptcy Code.
• There are various types of bankruptcy, commonly referred to by their chapter within the U.S. Bankruptcy Code.
• Bankruptcy can allow you a fresh start, but it will stay on your credit reports for a number of years and make it difficult to borrow in the future.

Bankruptcy offers an individual or business a chance to start fresh by forgiving debts that simply cannot be paid while giving creditors a chance to obtain some measure of repayment based on the individual's or business's assets available for liquidation. In theory, the ability to file for bankruptcy benefits the overall economy by allowing people and companies a second chance to gain access to credit and by providing creditors with a portion of debt repayment. Upon the successful completion of bankruptcy proceedings, the debtor is relieved of the debt obligations that were incurred prior to filing for bankruptcy.

All bankruptcy cases in the United States are handled through federal courts. Any decisions in federal bankruptcy cases are made by a bankruptcy judge, including whether a debtor is eligible to file and whether they should be discharged of their debts. Administration over bankruptcy cases is often handled by a trustee, an officer appointed by the United States Trustee Program of the Department of Justice, to represent the debtor's estate in the proceeding. There is usually very little direct contact between the debtor and the judge unless there is some objection made in the case by a creditor.

Types of Bankruptcy Filings

Bankruptcy filings in the United States fall under one of several chapters of the Bankruptcy Code, including Chapter 7, which involves the liquidation of assets; Chapter 11, which deals with company or individual reorganizations; and Chapter 13, which arranges for debt repayment with lowered debt covenants or specific payment plans. Bankruptcy filing costs vary, depending on the type of bankruptcy, the complexity of the case, and other factors.

Individuals—and in some cases businesses, with few or no assets—typically file Chapter 7 bankruptcy. It allows them to dispose of their unsecured debts, such as credit card balances and medical bills. Those with nonexempt assets, such as family heirlooms (collections with high valuations, such as coin or stamp collections); second homes; and cash, stocks, or bonds must liquidate the property to repay some or all of their unsecured debts. A person filing Chapter 7 bankruptcy is basically selling off their assets to clear their debt. People who have no valuable assets and only exempt property—such as household goods, clothing, tools for their trades, and a personal vehicle worth up to a certain value—may end up repaying no part of their unsecured debt.

Businesses often file Chapter 11 bankruptcy, the goal of which is to reorganize, remain in business, and once again become profitable. Filing Chapter 11 bankruptcy allows a company to create plans for profitability, cut costs, and find new ways to increase revenue. Their preferred stockholders, if any, may still receive payments, though common stockholders will not.

For example, a housekeeping business filing Chapter 11 bankruptcy might increase its rates slightly and offer more services to become profitable. Chapter 11 bankruptcy allows the business to continue conducting its business activities without interruption while working on a debt repayment plan under the court's supervision. In rare cases, individuals can also file Chapter 11 bankruptcy.

While Chapter 7, Chapter 11, and Chapter 13 are the most common bankruptcy proceedings, especially as far as individuals are concerned, the law also provides for several other types:

• Chapter 9 bankruptcy is available to financially distressed municipalities, including cities, towns, villages, counties, and school districts. Under Chapter 9, municipalities do not have to liquidate assets to repay their debts but are instead allowed to develop a plan for repaying them over time.
• Chapter 10 bankruptcy, which effectively ended in 1978, was a form of corporate bankruptcy that has been supplanted by Chapter 11.
• Chapter 12 bankruptcy provides relief to family farms and fisheries. They are allowed to maintain their businesses while working out a plan to repay their debts.
• Chapter 15 bankruptcy was added to the law in 2005 to deal with cross-border cases, which involve debtors, assets, creditors, and other parties that may be in more than one country. This type of petition is usually filed in the debtor's home country.

Q 2) How much total liabilities did the city have before and after the bankruptcy? What are the major types of liabilities?

Ans : A bankruptcy discharge releases the debtor from personal liability for certain specified types of debts. In other words, the debtor is no longer legally required to pay any debts that are discharged. The discharge is a permanent order prohibiting the creditors of the debtor from taking any form of collection action on discharged debts, including legal action and communications with the debtor, such as telephone calls, letters, and personal contacts.

Although a debtor is not personally liable for discharged debts, a valid lien (i.e., a charge upon specific property to secure payment of a debt) that has not been avoided (i.e., made unenforceable) in the bankruptcy case will remain after the bankruptcy case. Therefore, a secured creditor may enforce the lien to recover the property secured by the lien.

There are mainly four types of liabilities in a business; current liabilities, non-current liabilities, contingent liabilities & capital. A liability may be a part of past transaction done by the firm, e.g. purchase of a fixed asset or current asset. Most bankruptcy cases involve several creditors. Debtors can have two different types of debt -- secured and unsecured. With secured debts, creditors have the legal right to something of yours if you fail to make the proper payments. Your mortgage, for example, is a secured debt

There are two types of bankruptcy for individuals—the discharge of debts and the payment plan. Chapter 7 of the Bankruptcy Code is for the discharge of debts, which is the traditional bankruptcy. Under Chapter 7, you either pay for or give up your property for secured debts. You surrender any nonexempt property in order to pay off as much of your other debt as possible. You keep all of your other exempt property and are forever released from any obligation to repay the remaining dischargeable debt.

One important requirement for a Chapter 7 bankruptcy is that you do not have sufficient income to allow you to pay at least a portion of your debts. Making this determination is largely a mathematical calculation, and there is a form for making the calculation. If you have enough income, you will need to file under Chapter 13 instead of under Chapter 7.In a Chapter 13 bankruptcy, you are not seeking to get rid of all of your debt entirely, but only to do one or a combination of the following:

§ restructure your payments so they are more manageable, considering your income

§ get rid of part of your debt so that you can manage payments

This can be done by spreading your payments over a longer period of time or by paying only a part of the loan. Either way, your monthly or weekly payment will be reduced. This type of payment plan can last up to five years. This means your finances will be under the watchful eye of the trustee during this time.

The two main things the trustee and the judge will consider in deciding whether to accept your plan are:

§ whether the creditors are being treated fairly

§ whether each creditor will receive at least as much as if you had gone with the traditional Chapter 7 bankruptcy

In a Chapter 13 case, the creditors' meeting is usually concerned with trying to reach a plan that will be acceptable to the creditors. You may spend some time negotiating with creditors as they try to get you to change your plan so they get more money or get it faster.The creditors don’t need to agree with your plan, but if they do, it will be more easily accepted by the trustee and the judge. Even if the creditors object to your plan, it can still be approved as long as it is fair (in the judge's opinion, which usually relates to all creditors of the same type being treated equally) and as long as each creditor gets at least as much as if you had filed under Chapter 7.

Q 3) Describe how the federal government, local governments, and the community are trying to save and revive the city. Are these actions working?

Ans : Local government, authority to determine and execute measures within a restricted area inside and smaller than a whole state. Some degree of local government characterizes every country in the world, although the degree is extremely significant. The variant, local self-government, is important for its emphasis upon the freedom of the locality to decide and act.

There is more than a technical importance in the difference between the two terms, because they are related to the distinction sometimes drawn between deconcentration and decentralization. Local government is often, but not necessarily, related to the former; local self-government to the latter. These distinctions are important, even if they are blurred. Deconcentration broadly means that, for the sake of convenience, some functions have been devolved from a central government to administration on the spot. Power is still administered through officials appointed by and responsible to the centre, and authority and discretion are vested in the centre. On the other hand, decentralization represents local government in areas where the authority to decide has been devolved to a council of locally elected persons acting on their own discretion with officials they themselves freely appoint and discipline.

The term local self-government has been traditionally used of local government in the United Kingdom and Germany. Thus, the Basic Law (the constitution of Germany) says, “Municipalities must be guaranteed the right to regulate all local affairs on their own responsibility, within the limits prescribed by the laws.” On the other hand, the amended constitution of the French Fifth Republic says, “In the conditions provided for by statute, these [local communities] shall be self-governing through elected councils and shall have power to make regulations for matters coming within their jurisdiction.” This expresses the spirit of deconcentration.

However tightly bound to the central office’s authority and regulations local officials may be, a degree of discretion is unavoidable. Often, again, the fairly pure organs of local self-government, such as the borough councils in the United Kingdom, are obliged to execute the purposes of the central government. Primarily units of local self-government, they are simultaneously units of local obligation acting as ordered by the central government for services such as education and policing.

Thus, modern local government has a twofold aspect—it is a mixture of both deconcentration and decentralization, of central convenience and an acknowledgment that not all authority ought to be exerted by the centre. The mixture is revealed by the extent to which some of the powers exercised by local government units are exercised compulsorily and under fairly strict control by central authority with financial assistance, while others are not. This mixture produces the high complexity of modern local government. Further, local government is a departmentalization of the state’s work, based on the territorial distribution of services, as contrasted with (1) division into departments at the centre or (2) decentralization of functions to public corporations. In local government, territorial distribution of power is the essence.

Q 4) Describe the recent property tax issue faced by the city and how it impacts the city’s budget and financial condition.

Ans : Property tax is the annual amount paid by a land owner to the local government or the municipal corporation of his area. The property includes all tangible real estate property, his house, office building and the property he has rented to others.

      Central government properties and vacant property are generally exempt. Property tax comprises taxes like lighting tax, water tax and drainage tax. Property tax is an annual tax on real property. It is usually, but not always, a local tax. It is most commonly founded on the concept of market value. The tax base may be the land only, the land and buildings, or various permutations of these factors. For the purposes of this guide, property tax is restricted to annual taxes and excludes one-off taxes on transfers, on realised capital gains or betterment, or on annual wealth taxes. Property tax has been in existence for at least three millennia. It is common throughout the world and has often been the subject of political debate. The strengths and weaknesses of this type of tax are well known and possibly more widely understood than any other tax. Several characteristics of property taxes have contributed to their declining relative importance in the 20th century. The maximum yield presently achievable appears on the basis of experience to be less than 12 percent of total national tax revenues, although the actual potential will vary according to the specific structure and incidence of taxation within any given jurisdiction. It is useful to understand these characteristics when designing a new tax or seeking to bring about improvements in existing systems. There is much to learn from the experiences of other countries.

The economic impacts of COVID-19 are already shaping up to be significant, yet uneven, across the country. Not only are workers and businesses affected, but so too is the fiscal capacity of governments that rely on a healthy economy for their revenue. As the crisis unfolds, the impact on cities’ bottom line will be driven not only by overall economic conditions but specifically the parts of the economy where revenue is generated: retail sales, income and wages, and real estate.

To understand when cities can anticipate the brunt of COVID-19’s impact on their general fund revenues, we examined the extent to which a city relies on general tax sources that respond quickly to economic swings. An important factor is whether the city’s underlying regional economy is composed of industries that are more immediately exposed to coronavirus-related employment declines.The results indicate an uneven geography of fiscal impact, with many heartland cities likely to be hit harder and more quickly than others.

Q 5) Study the 2014 financial statements carefully, then calculate the property tax revenue as a percentage of the total revenue in the governmental funds. What is the largest and second largest revenue sources for the city’s general fund?

Ans : The city of Detroit, Michigan, filed for Chapter 9 bankruptcy on July 18, 2013, which was the largest municipal bankruptcy filing in U.S. history by the amount of the debt. It caused a big turbulence in the communities involved and questions rose as to how the management and accounting system could have helped the city to prevent or alleviate the financial tragedy. From the teaching perspective, the bankruptcy serves as a realistic example to discuss debt levels, property tax collections, dysfunctional city services and other related issues. For this purpose, two basic articles are assigned to the class for them to research the financial crisis and learn how the city has been trying to evolve from the crisis. Also, students are required to obtain copies of the 2012 and 2014 CAFR to compare the financial condition of the city before and after the bankruptcy. Other resources are allowed as they are pertinent to the research but need to be correctly cited.

Overview of Revenues The City of Geneva has developed a diverse base of revenues to fund its operational and capital needs. This section describes forecast methods, major revenue sources, trends, and effects on the City. Special emphasis is placed on four major revenue sources for the General Fund. Collectively, these revenues represent 73.5% of the City’s budgeted revenues within the General Fund for FY 2021. Property taxes are noted as a stand out item in this section as these revenues are recognized in several City funds (General Fund, Geneva Community Mental Health, and Debt Service Funds). Revenue Forecast Methodology The City of Geneva uses various sources of information to forecast revenue. This includes previous year trends, economic conditions, information from the County and Township assessors, the Illinois Municipal League, and rate studies for the Electric and Water/Wastewater Funds. Trend forecast models are used for sales tax, municipal tax, telecommunications tax, income tax, MFT tax, and electric/water sales. External economic conditions including inflation, unemployment, and interest rates are also taken into consideration when forecasting revenues. Major Revenues Ad Valorem Property Tax ($6,050,640) Property taxes are collected on the assessed valuation of taxable real personal property. The City establishes a legal right to the property tax assessments upon the enactment of a tax levy ordinance by the City Council. These tax assessments are levied in December and attached as an enforceable lien on the property as of January 1 of the same year. Tax bills are prepared by Kane County around May and August of the following year and are due in June and September, respectively. Taxes are collected and remitted to the City by the County Treasurer. The 2019 property taxes are collected in 2020 and provide funding for the FY 2021 budget. Kane County provides the Equalized Assessed Values (EAV) used in the calculation of property taxes necessary to fund the budget. Total assessed valuation in Geneva increased steadily during the early to mid-2000’s then began a steady descent after Levy Year 2009 with a slow return since Levy Year 2014. The 2019 assessed valuation of $1,090,176,238 shows an increase of $42,379,964 or 4.0% over 2018. The tax levy rate also used to calculate property taxes, peaked in 2015 at $0.7479 per $100 of taxable assessed value and now continues a downward trend due to a decrease in required debt service payments. The tax rate for 2019 is $0.566880 per $100 of taxable assessed value.

Q 6) For fiscal year 2014, what are the three largest expenditures in the governmental funds? Calculate their percentages to the total expenditure of the governmental funds.

Ans : On March 22, 2014 the side of a hill near the town of Oso, Washington gave out after three days of relentless rainfall. A massive landslide followed, with mud and debris covering more than a square mile. Forty-three people were killed when their homes were engulfed by the slide.

In the days that followed more than 600 personnel participated in search and recovery operations. They rescued eight people from the mud and evacuated more than 100 others to safety. Most of the rescue personnel came from the four rural Snohomish County fire districts that surround Oso.

Minutes after hearing of the slide, staff at the Washington State Office of Financial Management (OFM) – the governor’s budget office – made two critical phone calls. Earlier that week they had reviewed some data on the financial health of local special districts across the state. They observed that rural fire districts in the counties north of greater Seattle were showing signs of acute fiscal stress. Those districts had seen huge growth in property tax collections during the real estate boom of the 2000’s. But since the real estate crisis of 2007-2009, those revenues had fallen precipitously. Many of those districts had laid off staff, cut back on specialized training, and back-filled shifts with volunteer firefighters.

So moments after hearing of the slide, OFM staff called the fire chiefs at two of the most financially-stressed Snohomish County fire districts. Their message to those chiefs was simple: send your people. OFM agreed to reimburse the districts from state or federal emergency management funds if needed. In turn, personnel from two of those districts were among the first on the scene, and were responsible for three of the eight life-saving rescues.

A few weeks later the chiefs of both those districts acknowledged that had OFM not called, they would not have sent their personnel. Both districts were so financially stressed that they could not have afforded the overtime wages and other expenses they’d have incurred to participate in the rescue operations.

Financial condition matters. It shapes how a public organization thinks about its mission and its capabilities. In the case of the Oso mudslide, it was the focal point for some life-saving decisions. That’s why all aspiring public servants need to know how to evaluate financial statements, and to measure, manage, and improve their organization’s financial position.

Q 7) Both the governmental funds and enterprise funds have deficits (the difference between assets and liabilities is negative). How can you explain this, and what has the city done to improve these cumulative deficits?

Ans : Traditionally, state and local government financial reports contained financial statements arranged around funds—the governmental funds, proprietary funds, and fiduciary funds. Although the fund financial statements were widely used, they did not allow financial statement users to get an overall view of a government’s finances for two reasons. First, the funds could not simply be added together, because doing so would double-count any financial activity occurring between funds. In other words, an amount owed from one fund to another would show up as both an asset and a liability, overstating both.

            Second, the funds reported very different information. The proprietary and fiduciary funds report information using an accrual basis and economic resources measurement focus, similar to the type of information reported in the financial statements of not-for-profit organizations and corporations. This form of reporting includes all economic transactions and presents both long- and short-term consequences. The governmental funds, however, report information using the modified accrual basis and current financial resources measurement focus. The governmental funds focus on the short run and generally do not include assets lasting more than one year (such as infrastructure) or liabilities that are not due and payable (such as bonds). Consequently, for the bread-and-butter activities accounted for in the governmental funds, such as public safety and education, major pieces of financial information were missing.

            The government-wide statements ignore the partitions created by the funds, bringing the financial activity together in one place and using just one type of information—accrual-based economic resources. As a result, all assets and liabilities are accounted for, as well as all inflows and outflows of resources. The government-wide statements organize information by whether it relates to governmental activities or business-type activities. Generally, the governmental activities are those accounted for in the governmental funds and the internal service funds (one of the two types of proprietary funds). The business-type activities are typically synonymous with the enterprise funds (the other type of proprietary fund).

            Trusts and agency funds are not included in the government-wide statements, because the resources they account for are being held in a fiduciary capacity by the government. The governmental and business-type activities combine to represent the total primary government. Additionally, discretely presented component units—legally separate entities for which the primary government is financially accountable—are shown on the face of the government-wide statements but are not included in the total for the primary government.

The Statement of Net Assets

            The statement of net assets presents the same information as a balance sheet: It assesses the balance of a government’s assets—the resources it can use to provide service and operate the government—against its liabilities—its obligations to turn over resources to other organizations or individuals. The difference between a government’s assets and its liabilities is called net assets. The name of the statement reflects its emphasis on what a government would have left over after satisfying its liabilities. Net assets are an indicator of a government’s financial position—its financial standing at a given point in time (typically, the end of the fiscal year). Financial position can be tracked over time to assess whether a government’s financial health is improving or deteriorating.

Assets are presented in order of their relative liquidity. (See Figure 1.) In other words, the statement starts off with cash and assets that are most easily converted to cash or consumed, such as receivables, and leads to those assets expected to be used for many years, such as buildings and other capital assets. Some governments present their statement of net assets in a classified format that separates current assets from noncurrent assets (as well as current liabilities from noncurrent liabilities). Current assets are those that are expected or required to be converted to cash or consumed within a year. Noncurrent assets either are expected to be liquidated or consumed beyond one year or are restricted from being liquidated in the current year.

Liabilities are reported in order of their relative maturity—when they are expected to be paid off or otherwise satisfied. If the classified format is used, the current and noncurrent liabilities are separated. Otherwise, long-term liabilities are shown in two components—the portion due within the following year and the portion due beyond one year.

            Amounts shown for liabilities typically represent the balances remaining to be paid, though there are some exceptions. Long-term debt amounts may include amortized discounts or premiums. Certain long-term liabilities, such as claims and judgments and compensated absences, are not known precisely as of the date of the financial statements and are therefore estimated based on prior experience and professional judgment. Information about how estimates are made can be found in the notes to the financial statements.

            Finally, deferred revenues are reported as liabilities. Deferred revenues under accrual accounting are resource inflows that have not yet been recognized as revenue, generally because certain conditions have not been met. For instance, a county may be required to provide a particular service or contribute resources of its own before it qualifies to use resources provided by the state or federal governments. Alternatively, certain resources may not be allowed to be used until after a particular date. A government may be required to return those resources if the conditions are not met, but as a general rule deferred revenues are eventually recognized as revenue and are not returned to the resource provider.

Q 8) Are there other observations and comments for the city that you would like to present?

Ans : In 2016, the Insolvency and Bankruptcy Code (IBC) was enacted with much fanfare amid hopes of reviving the stressed companies. Three years on, the picture looks grimmer.

There are two key takeaways from the data available with the Insolvency and Bankruptcy Board of India (IBBI): Firstly, in 2019, the insolvency proceedings have seen a surge, and secondly, in most cases under the coveted IBC, the companies go under the hammer of liquidation. In 2019 alone, 1,039 companies were taken by the creditors for the insolvency proceedings. In just nine months, this number is 8% higher than the 959 cases registered last year. According to market watchers, this indicates a few things -- economic indicators are weighing heavy on India Inc, and over-leveraging, largely seen as a legacy problem built-up over the years of financial mismanagement, is ultimately taking a toll on India Inc.

At the end of the September quarter, the total outstanding amount of India Inc in the debt market stood at a whopping Rs 30.8 lakh crore, while bank debt to industries and services sector stood at Rs 51.4 lakh crore. The combined number is 4.44 times the net sales of India Inc at the end of the June quarter, which according to CARE Ratings stood at Rs 18.5 lakh crore. According to various analysts, an estimated Rs 42,000 crore worth of exposure spread across nine banks, is facing a very high degree of stress -- with State Bank of India, YES Bank and Bank of Baroda the worst affected. In the wake of this, a fresh wave of bad loans is likely to hit the Indian banks -- which is likely to cost about Rs 1.2 lakh crore, mostly from the companies in real estate and shadow banking.