The city of Stockton, California, filed for bankruptcy on Thursday, after failing to make a deal with its creditors.
The inland port city of 290,000 people, 144km east of San Francisco, suffered badly during the US housing market crash and faces a projected budget shortfall of $US26 million.
The BBC reports filing for Chapter 9 bankruptcy protection allows the city to hold some of its creditors at bay while still paying for basic services like its police and fire department.
Stockton is the largest city in the United States to go bust since Cleveland, Ohio, did so in 1979.
In the past three years, it has dealt with $US90 million in deficits through a series of drastic cuts.
A quarter of the police force has been eliminated, one-third of the fire staff and 40% of all other municipal employees. Wages and medical benefits have also been cut.
The BBC reports more than 15% of the population is unemployed - nearly double the national average. Crime rates are high.
City council buildings have been repossessed and "Out of Business" signs are a common sight.