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With a subordinated loan, the lender ranks behind other creditors upon repayment: they are only paid once the others have been paid. As a result, the loan strengthens the company's financial position, but the lender faces greater risk — often in exchange for a higher interest rate.
What is a subordinated loan?
A subordinated loan is an ordinary loan with one important difference: the claim is subordinated to those of other creditors. If the company fails, the subordinated lender will only be paid after the other creditors have been paid. In this respect, the loan resembles equity.
When is it used?
Companies use subordinated loans to raise funds without affecting their creditworthiness with banks: a subordinated loan often counts as (a type of) equity. It is a way to finance investments or bridge a difficult period, for example during a refinancing or a family loan.
More risk, higher interest rate
Because the lender is at the back of the queue, they run a higher risk than an ordinary creditor. This usually translates into a higher interest rate. It is therefore important for the lender that the terms, interest rate, and degree of subordination are crystal clear.
Secure the subordination properly
The key lies in the subordination clause: relative to which creditors and under what conditions is the loan subordinated? An unclear arrangement leads to disputes, precisely when things go wrong. Therefore, have the agreement drafted carefully.
Frequently Asked Questions
Why would I subordinate a loan?
To finance the company without affecting the credit limit at the bank; the loan often counts as a strengthening of equity.
Does the lender run a higher risk?
Yes, he is paid only after the other creditors. That is why a higher interest rate usually applies.
What is the most important thing in the agreement?
The subordination clause: in relation to whom and under what conditions the loan is subordinated.
Properly documenting a subordinated loan?
Our legal experts draft your loan agreement with the proper subordination, or a convertible loan. View our financial lawteam or schedule a free consultation.
