California City Under Investigation Drained Reserve Funds

By James Nash on July 13, 2012

Law enforcement officials are investigating possible crimes in San Bernardino’s city government, which almost drained special funds to prop up its budget.

The near-bankrupt state of the community of 209,000 east of Los Angeles came to light when a new finance director discovered that previous officials shifted money for workers-compensation and liability insurance to the general fund, said Andrea Travis- Miller, interim city manager.

“The city has relied on a whole variety of one-time measures to balance its budget,” Travis-Miller, who began her job in May, said yesterday. “There have been transfers to the general fund with the expectation that they would be repaid. That became difficult.”

A day after she and the finance director warned of a projected $45 million deficit, the City Council voted to seek bankruptcy protection, according to documents and City Attorney James Penman. San Bernardino became the third California municipality to opt for bankruptcy in a month.

The city has been under investigation for several months by the San Bernardino sheriff’s office, the city’s police department and the local district attorney following allegations of crime, according to a statement posted on the sheriff’s website. The release said the probe is continuing and provided no details.

Travis-Miller said she knew of no intentional wrongdoing.

Faked Reports
At a council meeting this week, Penman said former municipal employees had understated the extent of the city’s fiscal woes in “falsified” reports during the past 16 years. He declined to name anyone. Mayor Patrick Morris, who took office in 2006, said that it was the first time he had heard Penman’s allegations.

Penman, who unsuccessfully ran against Morris for mayor, said in an interview that irregularities in city accounting became apparent to him in February, and he notified an “outside governmental agency” on Feb. 29. He declined to name the agency, or say whether it was a branch of law enforcement. He also wouldn’t detail the signs of irregularities he saw.

“All evidence of suspected wrongdoing has been turned over to the appropriate governmental agencies,” he said. The probe under way now was sought by city officials, according to the sheriff’s office.

Penman, first elected in 1987 as chief lawyer for the city, said the magnitude of San Bernardino’s financial crisis came to light only in June.

$127,000 Cash
Travis-Miller and Jason Simpson, the new director of finance, discovered that cash reserves had fallen as low as $127,000, jeopardizing the city’s ability to meet its June 15 payroll costs of more than $4 million, Penman said.

Travis-Miller and Simpson weren’t available to comment on Penman’s account, their assistants said.

In a draft of a budget document dated June 26 and released by the city clerk, Travis-Miller and Simpson wrote that San Bernardino was facing insolvency as both its general fund and special funds were out of money.

More than half of the projected $45 million deficit resulted from the city shorting special accounts such as those for retiree health, and workers’ compensation and general- liability insurance funds, according to the budget document.

Evan Westrup, a spokesman for Governor Jerry Brown, a Democrat, and the state Finance Department, said he had no comment as to the legality of the fund transfers. His response came before the disclosure of the law-enforcement probe.

Agency Dissolved
The dissolution of the city’s Economic Development Agency, one of about 400 such entities in California eliminated Feb. 1 by a new state law, compounded the crisis by taking away a source of revenue, according to the memo.

“The remaining fund balances cannot pay for ongoing operating costs and large sustained reductions will be required,” Travis-Miller and Simpson said in the memo, which was completed and released to the council July 9.

“The EDA shutdown was the straw that broke the camel’s back, but it was only a straw,” Penman said.

Because the city probably won’t have enough money to pay its employees through the next 60 days, it is poised to become the first California city to bypass mandated mediation with creditors by declaring a fiscal emergency and seeking court protection, Penman said. Stockton and Mammoth Lakes filed Chapter 9 bankruptcy petitions in the past month, the first such moves by municipalities in the state since 2008.

Declaration Vote
San Bernardino’s council has scheduled a vote July 16 on the emergency declaration that would let it skip the 60-day neutral evaluation process in which creditors have a right to participate, Penman said.

Stockton, a community of 292,000 east of San Francisco, and Mammoth Lakes, a mountain resort of 8,200, both went through mediation with creditors such as labor unions and bondholders before seeking bankruptcy in the past two weeks.

A law signed by Brown that took effect this year requires mediation before municipalities can seek court protection, without a declaration of fiscal emergency. Public-employee unions pressed for the law after Vallejo, a city of 120,000 in the San Francisco Bay area, went bankrupt in 2008 and asked the court to let it void labor contracts.

To contact the reporter on this story: James Nash in San Bernardino, California at jnash24@bloomberg.net.

To contact the editor responsible for this story: Stephen Merelman at smerelman@bloomberg.net.