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Stockton, Calif., takes 'first step towards bankruptcy'

STOCKTON, Calif. -- The city of Stockton in California's crop-abundant Central Valley has the second-highest foreclosure rate in the nation and one of the highest crime and unemployment rates. It was named America's most miserable city in a national magazine — twice.

And now, officials say this river port city of 290,000 is on the brink of insolvency and could become the nation's largest city to fall into Chapter 9 bankruptcy protection.

The City Council voted late Tuesday to use a new California law to enter mediation with its creditors. City leaders said they hoped the plan to renegotiate Stockton's debt would help it avoid bankruptcy.

Dozens of residents spoke against the move, saying they feared it would do the opposite, KRCA-TV reported.

"If they vote for mediation, it is the first step towards bankruptcy," former City Manager Dwane Milnes said. "That means 1,000 people could lose retirement benefits."

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Stockton will be the first city to test the state law, Assembly Bill 506, which is less than 2 months old. It requires local government agencies to undergo mediation or hold a public hearing and declare a fiscal emergency before filing for bankruptcy.

In 2008, Vallejo became the biggest California city to file for bankruptcy, and it emerged from bankruptcy last year.

Budget gap
Under the plan, the city will skip some bond payments in an effort to restructure its precarious finances.

Along with defaulting on about $2 million of debt payments through the end of its current fiscal year, the city located about 85 miles east of San Francisco will seek mediation with its major bond holders to try to get a break on its debt to help tackle a budget gap projected to range from $20 million to $38 million.

While Stockton officials say they hope to avert bankruptcy, the city has hired an attorney who represented much smaller Vallejo, which drew national attention to financial problems of local governments in the most populous U.S. state.

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Stockton's attorney, Marc Levinson, said mediation could keep the city from following in Vallejo's footsteps and suffering the stigma of bankruptcy.

"This is really the city's last and best chance to avoid a bankruptcy case," Levinson said.

But Stockton residents who have seen hard times grip their city in recent years are bracing for the possibility it will land in bankruptcy court despite its financial restructuring plan.

"That's the end of the plank — and we're on that plank," 68-year Stockton resident Rosalio Estrada told Reuters.

'It's been tough'
In recent years, thousands of new homes mushroomed in Stockton, part of a housing boom in suburban development that attracted buyers from the Bay area and beyond.

But when the economy crashed and the construction bubble burst, Stockton was battered by foreclosures and lost income from property taxes and other fees. Multi-year labor contracts with escalating costs added to the burden, forcing officials to make deep emergency cuts to the city payroll, including its police department.

"It's been so challenging. Since 2008, the whole market was essentially turned upside down," said Randy Thomas, a Stockton real estate broker with the Cornerstone Real Estate Group. "A lot of folks were losing their homes. A lot of people were getting evicted, and it's been tough on a lot of people."

City leaders say Stockton could soon be unable to pay its debts. The city has a $15 million deficit — $6.6 million from the last fiscal year and $8.7 million expected for the current fiscal year, according to documents.

Forecasts also show deficits ranging from $20 million to $38 million for the fiscal year 2012-2013 and increasing in subsequent years.

Some residents are losing faith.

Marty Carlson, a waitress at Bradley's American Bistro in downtown Stockton, said business, along with her tips, has been on the decline for years. She's had enough, she said, and plans on leaving Stockton soon.

"They're (the city) not the only one going bankrupt," Carlson said. "It's time to move on. I'm ready."

Nearly one in five Stockton residents live below the poverty level, according to the U.S. Census Bureau, and the city's unemployment rate in December was 15.9 percent, down from 18.1 percent a year-earlier but well above the national average of 8.3 percent and California's lofty 10.9 percent that month.

Poor management?
Stockton's finances have also been hurt by two decades of poor management, generous retirement benefits for city workers, unsustainable labor contracts and too much debt, said City Manager Bob Deis, who last week made public the default and mediation plan.

Deis said Stockton can neither afford more cuts to its services to save money nor raise revenue with tax increases due to the city's weak economy, leaving the city little option but to ask its major bond holders for a break on some its debt.

Wall Street reacted swiftly to Deis' default plan by cutting Stockton's credit rating.

Moody's Investors Service on Friday lowered Stockton, California's general fund-supported debt ratings to below investment grade, a move affecting about $341 million in debt, and Standard & Poor's Ratings Services cut its issuer credit rating on the city to speculative grade.

Fitch Ratings on Monday downgraded by several notches its underlying ratings on four series of Stockton Public Finance Authority water revenue bonds, leaving each at BBB-, the firm's lowest investment grade rating. Fitch does not rate the city.

Stockton officials may be using default and talk of bankruptcy to try to wring concessions from city labor units to further cut expenses, said Matt Dalton, chief executive of Belle Haven Investments in White Plains, New York, which has more than $1 billion in municipal bond assets under management.

"They need to fire a shot across the bow so that everybody knows they're serious," Dalton said.

The Associated Press and Reuters contributed to this report.