On April 17, 2012, the Northern Mariana Islands Retirement Fund (the “Fund”) became the first United States public pension fund to seek formal bankruptcy protection. The Fund, which provides retirement benefits to government employees of the Commonwealth of the Northern Mariana Islands (the “Commonwealth”) a U.S. territory, listed $256 million in assets and $1 billion in liabilities and has alleged it will exhaust its claims paying ability by as early as 2014.

Various parties including the Commonwealth itself and the United States Trustee’s Office (a division of the United States Department of Justice responsible for overseeing the administration of bankruptcy cases) have challenged the Fund’s eligibility to file a Chapter 11 bankruptcy.

The Fund concedes that Chapter 9 is unavailable (a Chapter 9 Debtor must be a “municipality”, and because the Commonwealth is not a state the Fund cannot be a municipality as that term is defined in the Bankruptcy Code.)  The Fund’s Chapter 11 eligibility is arguably a closer call.  A debtor must be a “person” to be eligible to file for Chapter 11 bankruptcy protection. “Person” is defined to include individuals, partnerships, and corporations, but explicitly excludes governmental units. The dispute is whether the Fund is a “governmental unit.”

The objecting parties argue that the Fund’s structure and statutory existence establish that it is a “governmental unit” of the Commonwealth. They argue that providing retirement security and other benefits to government employees is a “traditional governmental function”, that the governance of the Fund is controlled by the Commonwealth both through the passage of legislation and the appointment of the Board of Trustees, and that the Commonwealth’s statutory designation of the Fund clearly confirms the “governmental unit” classification: “The Northern Mariana Islands Retirement Fund shall serve in a fiduciary capacity with respect to employer and employee contributions and shall serve as a fiscal and administrative agent of the government.”

On May 18, 2012, the Fund responded to the motions to dismiss, arguing that it is not a “governmental unit” and therefore Chapter 11 is an available remedy. The Fund’s argument relies primarily on the recent decision in the Las Vegas Monorail case, in which the court found that the Las Vegas Monorail was an eligible debtor under Chapter 11 despite its ties to the state.  That decision introduced a three-part test to identify a “governmental unit”: (a) whether the entity has traditional governmental powers and/or performs traditional governmental functions; (b) the nature and extent of governmental control over the operations of the entity; and (c) the government’s designation of the entity. Focusing on this test, the Fund disputes that actively managing and investing employee and employer contributions is a “traditional governmental function” as such services are regularly performed by private financial institutions. The Fund argues that “governmental control” is determined by governmental involvement in the daily affairs of the entity and that, in this case, the Commonwealth only has the authority to regulate the Fund and that regulation, even if “extensive and intrusive,” does not transform a heavily regulated entity into a governmental unit. Finally, the Fund argues that the government’s designation of the Fund as a “public corporation and autonomous agency” classifies it clearly as a regulated entity, not a governmental unit.

The Fund also advances a secondary argument under the “Alternate Relief Test.” This policy-based analysis favors Chapter 11 eligibility because no other remedy is available to the Fund, other than “maintaining the status quo and barreling headlong towards financial oblivion or receivership.”

Given the increasing number of such “quasi-governmental” entities and the decreasing solvency of pension funds, the case is being closely watched by the market. The hearing on the motions to dismiss is on June 1, 2012.  Expect a blog update upon the court’s ruling.