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Originally published July 11, 2012 at 6:58 PM | Page modified July 12, 2012 at 4:06 PM

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Third Calif. city in past month declares bankruptcy

Once rare, turning to bankruptcy has become a painful but enticing option for cities whose labor costs and municipal debt far outpace anemic tax revenues.

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SAN BERNARDINO, Calif. — San Bernardino on Tuesday became the third California city to seek bankruptcy protection in the past month as cities across the state and country slash day-to-day services and take other drastic actions to skirt a similar fiscal collapse.

"There are likely to be more in the future, but it's hard to know, since a lot of struggling cities may manage to work things out," said Michael Coleman, a fiscal policy adviser for the California League of Cities. "Some cities may not go into a bankruptcy, but they may dissolve. They may cease to exist."

Once rare, turning to bankruptcy has become a painful but enticing option for cities whose labor costs and municipal debt far outpace anemic tax revenues. The San Francisco Bay Area city of Vallejo began the current trend in May 2008, filing for Chapter 9 bankruptcy protection because, city leaders said, salaries and benefits for its public-safety workers were eating up too much of the general fund.

Last month, Stockton became the largest city in the state to seek bankruptcy protection after it was unable to come to agreement with its employee unions and creditors on a plan to close a $26 million gap in its general fund. On July 2, the tiny resort town of Mammoth Lakes filed bankruptcy papers in part because it was saddled with a $43 million court judgment it couldn't pay.

Bankruptcy experts say the decision in San Bernardino — a city of 209,000 some 60 miles east of Los Angeles — could sound an alarm to cities across the state and country that are grappling with weak property- and sales-tax revenues as their pension obligations continue to rise.

"People are waiting to see whether these are the exceptions to the rule or whether we have a new trend," said Jim Spiotto, a Chicago attorney who tracks municipal bankruptcies. "I do think it may be something of a wake-up call."

In some instances, cities like Harrisburg, Pa., and Mammoth Lakes, Calif., have considered bankruptcy as a way to cope with a specific debt. In contrast, cities like Stockton, Calif., and Central Falls, R.I., have sought bankruptcy to deal with an unbearable financial outlook due to rising costs and stagnant revenues, said Michael Sweet, a bankruptcy attorney with Fox Rothschild's San Francisco office.

"Those are the ones you want to watch," Sweet said. "The cities that have a higher reliance on property-tax revenue to support their general funds are the ones that are going to feel the most pain."

San Bernardino, which soared economically during the housing boom and has suffered since the bust, couldn't close a $45.8 million budget shortfall and would be unable make its payroll this summer. Days before Tuesday's City Council vote, the city of 211,000 people had just $150,000 in the bank. The city barely scraped together enough money to cover its June payroll.

Rising public pension costs are one of the catalysts pushing cities into fiscal peril. In San Bernardino, the city's obligation to its employee retirement system rose from $1 million in the 2006-07 fiscal year to nearly double that in the current budget year. In three years, those costs are expected to swallow up 15 percent of the budget.

Pension spending grew an average of 11.4 percent a year in the state's biggest cities and counties between 1999 and 2010, roughly twice as fast as spending on public safety, social services, recreation, health and sanitation, according to a February report by the Stanford Institute for Economic Policy Research.

The city had largely patched over its growing fiscal ills, exacerbated by the struggling economy, by tapping out its reserves over the last several years, according to a fiscal report submitted to the council before Tuesday's vote.

That 4-2 decision to file for bankruptcy protection was the easy part, San Bernardino Mayor Patrick Morris said Wednesday. Now the city has to pull together a plan to emerge from its fiscal crisis. It has already cut its workforce by 20 percent over the last four years.

Steve Tracy, a fire engineer and spokesman for the city firefighters union, said San Bernardino's labor groups already gave up $10 million in concessions. He blamed the financial crisis on the mayor and former city manager spending money on such pet projects as a new downtown movie theater.

"Before you start putting blame on the labor groups, get your own fiscal house in order," Tracy said.

Vallejo was in a similar bind when it filed for bankruptcy four years ago. Now Mayor Osby Davis wonders if the painful road to recovery was worth the cost.

The Bay Area city of 112,000 was forced to shut down two of its fire stations and today fixes just 10 percent of its crumbling roads. Its workforce, including police and firefighters, is about half its pre-bankruptcy size and those people left are "insanely" overworked.

Meanwhile, Vallejo spent $10 million on legal fees. It ended up with employee contracts that Osby thinks the city could have struck more cheaply if it had stayed out of bankruptcy court and turned to the bargaining table.

His advice to other cities on the financial brink? Don't do it.

"It takes an enormous toll on everyone," Davis said. "And you have the stigma of being a bankrupt city. How do you come out of being labeled a bankrupt city to one that is a desirable place to live?"

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