Glossary
Subordination
Subordination is an arrangement in which one creditor agrees that its claim ranks behind another's. Subordinated debt is repaid only after the senior debt is satisfied, either generally or out of particular assets.
An example
A shareholder lends money to a company that is also borrowing from a commercial lender. As a condition of the loan, the shareholder signs a subordination deed agreeing not to be repaid until the lender has been repaid.
Why it matters
Senior lenders often require related-party loans to be subordinated so that money does not leave the business ahead of them. For a borrower, subordination affects cash flow planning and how investors or related parties can be repaid during the term.
Points to check
If you are asked to subordinate a loan, such as a related-party loan to a project company, understand that it may not be repaid until senior debt is cleared. Check the terms of the subordination deed, including any restrictions on repayment or enforcement. Get legal advice before signing, and make sure the arrangement is reflected in the project's financial model.