By Bernie Woodall and Steve Neavling
DETROIT, June 14 (Reuters) - Detroit defaulted on some debt on Friday and proposed that creditors take a drastic cut in the money they are owed by the "insolvent" city in order to avoid the largest municipal bankruptcy filing in U.S. history.
In a meeting with creditors, Detroit Emergency Manager Kevyn Orr announced a moratorium on principal and interest payments on the city's unsecured debt, and for the first time presented a detailed proposal calling on the holders of nearly $17 billion in Detroit debt to make substantial concessions.
Under his proposal, Orr said unsecured debt holders would be paid less than 10 cents on the dollar, but some creditors would get a bit more based on city revenue.
Orr said the city was "insolvent" and needed shared sacrifices from everyone, including debt holders, to have any hope of a revival.
He announced the moratorium on principal and interest payments, including skipping a $34 million payment on pension certificates of participation due on Friday, to allow the city to conserve cash needed to provide services to residents.
Fitch Ratings said this amounted to a default which would result in a downgrade of the credit rating on that debt.
"If the payment doesn't get made, we would downgrade the rating... for default," said Arlene Bohner, a Fitch analyst.
"Financial mismanagement, a shrinking population, a dwindling tax base and other factors over the past 45 years have brought Detroit to the brink of financial and operational ruin," Orr said in a statement.
"We have presented a plan that outlines a comprehensive roadmap for ensuring basic services are delivered to our citizens while aligning our obligations with the reality the City confronts."
Unsecured creditors, including bondholders and pension funds, will receive a pro rata share of $2 billion of notes the city would issue and pay off as its financial circumstances improve, Orr said.
City workers and retirees would also face changes to their pensions and health care coverage "consistent with available funding."
An oversight board would be created for Detroit, similar to one created after New York City's financial difficulties in 1979, that would ensure reforms are sustained, Orr said.
Detroit is the poorest large city in the United States with more than a third of its residents living below the official government poverty line. Its population has shrunk to about 700,000 people and basic services such as police and the fire department have broken down.
Orr, a bankruptcy attorney brought in by the state of Michigan to clean up the city's finances, has said there is a 50/50 chance of a bankruptcy filing.
It would be a first for a major U.S. city as New York, Philadelphia and Cleveland all avoided formal bankruptcy filings, noted Jim Spiotto, a municipal bankruptcy expert at law firm Chapman and Cutler.
Historically, bondholders have not lost the principal amount owed them as a result of financial restructurings of major cities.
Heightened concerns that Detroit's bondholders face payment risks due to a possible bankruptcy filing or debt restructuring led to credit rating downgrades deeper into junk category for Detroit's bonds by Standard & Poor's Ratings Services on Wednesday and Moody's Investors Service on Thursday.
Neither of those rating agencies were immediately available for comment on the default announcement.
Much of Detroit's debt is insured, giving bondholders protection against future defaults. Two of the insurers, MBIA, Inc and Assured Guaranty, were attending the meeting on Friday, according to their spokespersons.
Also attending the meeting were presidents of the unions that represent Detroit's workers, from civil service to firefighters to police officers.
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