Enhanced Subordination Agreement Drafting Prompt

You are an expert corporate attorney specializing in commercial finance and secured transactions. Your task is to draft a comprehensive, legally precise Subordination Agreement that establishes the priority of creditor claims and security interests in a multi-creditor financing arrangement. This document will govern the relationship between senior and junior creditors, clearly defining payment priorities, enforcement rights, and standstill obligations. The agreement must be sophisticated enough for complex commercial transactions while remaining clear and enforceable.

Initial Information Gathering and Document Review

Before beginning your draft, conduct a thorough review of all relevant transaction documents that have been provided. Search through uploaded materials to identify the existing loan agreements, security documents, promissory notes, and any intercreditor arrangements already in place. Extract specific details including the exact principal amounts of both senior and subordinated debt, the precise legal names and entity types of all parties, the detailed description of collateral, maturity dates, interest rates, and any existing subordination or priority provisions. Pay particular attention to defined terms used in the senior loan documents, as your Subordination Agreement must use consistent terminology to avoid conflicts or ambiguities. If you discover references to guarantors, additional secured parties, or complex collateral arrangements, note these carefully as they will need to be addressed in your draft.

Comprehensive Parties Identification

Draft a parties section that identifies each participant with complete legal precision. For the senior creditor, include their full legal name exactly as it appears in their organizational documents, their entity type and jurisdiction of formation, and their role in the transaction such as administrative agent, collateral agent, or individual lender. When multiple senior lenders exist, determine whether they are acting through an agent and structure the parties section accordingly. For the subordinating creditor, provide identical detail including any capacity in which they are acting, such as mezzanine lender, seller financing provider, or secondary lienholder. Include the borrower or debtor as a party to the agreement, ensuring their acknowledgment of the subordination arrangement and their agreement to make payments in accordance with the priority established. If guarantors have provided credit support for either the senior or subordinated debt, consider whether they should be parties to the subordination agreement or whether their obligations should be addressed through acknowledgment provisions. For each party, specify their complete address for notices, including street address, city, state, and zip code, and consider whether email addresses should be included for electronic delivery of notices.

Detailed Recitals Establishing Transaction Context

Compose recitals that tell the complete story of the financing arrangement and explain why subordination is necessary and appropriate. Begin by describing the senior debt facility, including when it was originated, the original principal amount, the current outstanding balance if different, the maturity date, and the fundamental business purpose of the senior financing. Reference the specific loan agreement, credit agreement, or promissory note that evidences the senior debt, citing the date of execution and identifying the parties to that agreement. Describe the collateral securing the senior debt with specificity, whether it consists of real property identified by legal description, personal property described in UCC financing statements, equity interests in specific entities, or general security interests in all assets of the borrower.

Continue the recitals by describing the subordinated debt with equal detail, explaining its origin such as seller financing in an acquisition, mezzanine financing for a development project, or secondary financing for working capital needs. Specify the principal amount, interest rate, payment terms, and maturity date of the subordinated debt. Explain the relationship between the subordinated debt and the collateral, clarifying whether it is secured by the same collateral as the senior debt, different collateral, or is unsecured but being subordinated in right of payment.

Articulate the business rationale for the subordination arrangement. Explain that the senior lender has required subordination as a condition to providing or maintaining the senior financing, or that the subordination facilitates a refinancing, acquisition, or other transaction that benefits all parties. If the subordination is part of a broader intercreditor arrangement or is required by the senior lender's credit policies or regulatory requirements, state this clearly. Reference any other agreements that interact with the subordination, such as intercreditor agreements, participation agreements, or purchase agreements, to provide complete context for how this document fits within the overall transaction structure.

Operative Subordination Provisions with Absolute Clarity

Draft the core subordination provisions using precise, unambiguous language that leaves no doubt about the scope and effect of the subordination. State explicitly that the subordinating creditor's claims, demands, liens, security interests, and rights to payment of any kind are subordinated in all respects to the senior creditor's claims, liens, security interests, and rights to payment. Define the subordinated obligations to include not only principal and stated interest but also default interest, late charges, prepayment premiums, fees, costs of collection, attorneys' fees, and all other amounts that may become due under the subordinated debt documents. Similarly, define the senior obligations comprehensively to include all amounts that may become owing under the senior debt documents, including future advances, letter of credit obligations, swap termination payments, and indemnification obligations.

Establish a clear standstill period during which the subordinating creditor agrees to refrain from exercising remedies or accepting payments. Specify that until the senior debt has been paid in full in cash and the senior lender's commitment has been terminated, the subordinating creditor will not demand, accept, or retain any payment of principal or interest on the subordinated debt except for permitted payments if any are allowed. Define what constitutes payment in full of the senior debt with precision, clarifying whether it means actual cash payment of all outstanding amounts, whether it includes payment of contingent obligations, and whether refinancing of the senior debt by the same or a different lender affects the subordination. Address whether the subordination terminates automatically upon payment in full or continues for some period thereafter to protect against preference actions or fraudulent transfer claims.

Include comprehensive turnover provisions requiring the subordinating creditor to hold in trust and immediately deliver to the senior creditor any payments received in violation of the subordination. Specify that such payments are received as trustee for the benefit of the senior creditor and that the subordinating creditor has no right to commingle such funds with their own assets. Address whether the subordinating creditor must turn over not only cash payments but also property, securities, or other consideration received from the borrower. Clarify that the turnover obligation applies regardless of whether the subordinating creditor knew the payment violated the subordination and regardless of the form or characterization of the payment.

Establish the subordinating creditor's agreement not to challenge the validity, enforceability, priority, or extent of the senior debt or the senior creditor's liens and security interests. Include provisions preventing the subordinating creditor from asserting any defense, offset, counterclaim, or other basis for reducing or avoiding their subordination obligations. Address the subordinating creditor's rights and obligations in bankruptcy or insolvency proceedings, including their agreement to vote claims in favor of any plan of reorganization supported by the senior creditor, to refrain from objecting to the senior creditor's use of cash collateral or obtaining post-petition financing, and to subordinate any claims in bankruptcy to the same extent as outside of bankruptcy. Specify whether the subordinating creditor may file a proof of claim in bankruptcy and, if so, whether such claim must acknowledge the subordination.

Restrictions on Subordinating Creditor Actions

Detail the specific actions that the subordinating creditor is prohibited from taking during the standstill period. Prohibit the subordinating creditor from accelerating the subordinated debt, declaring defaults, or exercising remedies without the senior creditor's prior written consent. Prevent the subordinating creditor from commencing or joining in any lawsuit, foreclosure action, or other proceeding to collect the subordinated debt or enforce security interests. Restrict the subordinating creditor from filing or perfecting any liens or security interests that would compete with the senior creditor's priority, and require the subordinating creditor to subordinate any such liens to the senior creditor's liens. Prohibit the subordinating creditor from contacting the borrower to demand payment, sending default notices, or taking any action that could interfere with the senior creditor's relationship with the borrower or the senior creditor's exercise of remedies.

Address whether the subordinating creditor may amend the subordinated debt documents during the standstill period, and if so, establish that any amendments increasing the principal amount, accelerating the maturity date, increasing the interest rate, or otherwise making the subordinated debt more burdensome to the borrower require the senior creditor's consent. Prohibit the subordinating creditor from releasing collateral, granting waivers, or otherwise taking actions that would impair the borrower's ability to satisfy the senior debt. Include provisions preventing the subordinating creditor from acquiring additional liens or claims against the borrower that would not be subject to the subordination without the senior creditor's consent.

Comprehensive Representations and Warranties

Include detailed representations and warranties from the subordinating creditor establishing the legal foundation for the subordination and allocating risk appropriately. The subordinating creditor should represent that they have full power and authority to enter into the agreement and that the agreement constitutes their legal, valid, and binding obligation enforceable in accordance with its terms. They should represent that the execution and performance of the agreement does not violate any law, regulation, court order, or contractual obligation to which they are subject. Include representations that the subordinating creditor has not assigned, transferred, or granted any participation in the subordinated debt that would be inconsistent with the subordination, and that they have the full right to subordinate their claims without the consent of any other party.

The subordinating creditor should represent the validity and enforceability of the subordinated debt, warranting that the borrower is legally obligated to pay the amounts claimed and that no defenses, offsets, or counterclaims exist that would reduce the subordinated debt. Include representations regarding the current outstanding principal balance, accrued interest, and any other amounts owing under the subordinated debt. The subordinating creditor should represent that they have provided complete and accurate copies of all subordinated debt documents and that such documents have not been amended except as disclosed.

Include representations from the senior creditor regarding their authority to enter into the agreement and the validity of the senior debt. The senior creditor should represent the current outstanding balance of the senior debt and confirm that they have not waived or released any material rights under the senior debt documents. Both parties should represent that no bankruptcy, insolvency, or similar proceeding is pending or threatened against them, and that they are solvent and able to perform their obligations under the agreement.

Consider whether the borrower should make representations as a party to the agreement, including representations regarding their corporate existence and good standing, their authority to acknowledge the subordination, the absence of defaults under either the senior or subordinated debt, and the accuracy of information provided regarding collateral and financial condition. If the borrower makes representations, include appropriate qualifications for matters within their knowledge and control.

Affirmative and Negative Covenants

Establish ongoing covenants that govern the parties' conduct throughout the term of the subordination. The subordinating creditor should covenant to provide prompt notice to the senior creditor of any default under the subordinated debt, any amendment to the subordinated debt documents, any release of collateral, or any other material change affecting the subordinated debt or the borrower's financial condition. Require the subordinating creditor to provide copies of all notices, demands, and communications sent to or received from the borrower regarding the subordinated debt. Include a covenant requiring the subordinating creditor to cooperate with the senior creditor in enforcing rights against the borrower and to execute any additional documents reasonably requested by the senior creditor to effectuate the subordination.

The subordinating creditor should covenant not to take any action inconsistent with the subordination or that would impair the senior creditor's rights or remedies. This includes covenants not to amend the subordinated debt in any manner adverse to the senior creditor, not to grant any waivers or consents under the subordinated debt without the senior creditor's approval, and not to release or subordinate any collateral securing the subordinated debt. Include a covenant that the subordinating creditor will maintain the perfection and priority of any liens they hold, subject to the subordination, to prevent junior creditors from gaining priority over the subordinated debt.

Address the borrower's covenants if they are a party to the agreement, including their covenant to make all payments in accordance with the subordination priorities, to provide notices to both creditors as required, and to refrain from making payments on the subordinated debt except as permitted. The borrower should covenant to maintain insurance and provide evidence of coverage to both creditors, to preserve and maintain collateral, and to comply with all obligations under both the senior and subordinated debt documents.

Rights and Remedies Upon Default

Define the senior creditor's rights and remedies if the subordinating creditor breaches the subordination agreement. Specify that the senior creditor may seek injunctive relief to prevent violations of the standstill provisions, as monetary damages would be inadequate to compensate for the harm caused by the subordinating creditor's improper exercise of remedies. Grant the senior creditor the right to enforce the subordination on behalf of the borrower if the borrower fails to do so, and clarify that the senior creditor is an intended third-party beneficiary of the subordinating creditor's obligations. Address whether the senior creditor may offset any damages caused by the subordinating creditor's breach against amounts otherwise payable to the subordinating creditor.

Establish the consequences if the borrower defaults under either the senior or subordinated debt. Clarify that the subordinating creditor's standstill obligations continue and may even be enhanced during a default, preventing the subordinating creditor from taking advantage of the borrower's financial distress to improve their position. Specify the senior creditor's right to exercise all remedies against the borrower and collateral without interference from the subordinating creditor, including the right to foreclose on collateral, take possession of assets, operate the borrower's business, and sell collateral free and clear of the subordinating creditor's interests. Address whether the senior creditor must provide notice to the subordinating creditor before exercising remedies and whether the subordinating creditor has any right to cure defaults or protect their interests.

Permitted Payments and Exceptions

If the subordination allows for any payments to the subordinating creditor during the standstill period, define these permitted payments with absolute precision. Common structures include allowing regular interest payments but prohibiting principal payments, allowing payments from specific revenue sources that do not constitute collateral for the senior debt, or allowing payments only if no default exists under the senior debt and specified financial covenants are satisfied. If permitted payments are allowed, establish clear conditions that must be met before each payment, such as the borrower's delivery of a certificate confirming no default exists and demonstrating compliance with financial covenants. Specify that permitted payments are subject to immediate suspension if a default occurs under the senior debt or if the borrower's financial condition deteriorates below specified thresholds.

Address whether the subordination terminates or is modified upon the occurrence of specified events, such as the senior debt being reduced below a certain amount, the passage of a specified time period, or the achievement of financial milestones by the borrower. If the subordination includes a "springing" feature where the subordinating creditor's rights are restored upon certain conditions, define these conditions precisely and establish the mechanism for determining when they have been satisfied.

Bankruptcy and Insolvency Provisions

Include detailed provisions addressing the parties' rights and obligations if the borrower becomes subject to bankruptcy or insolvency proceedings. Specify that the subordination is effective in bankruptcy and that the subordinating creditor's claims will be subordinated to the senior creditor's claims in any bankruptcy proceeding to the same extent as outside of bankruptcy. Address the subordinating creditor's agreement to file any necessary motions or pleadings in bankruptcy court to effectuate the subordination and to refrain from objecting to motions filed by the senior creditor. Include provisions requiring the subordinating creditor to vote their claims in favor of any plan of reorganization supported by the senior creditor or, alternatively, to grant the senior creditor a proxy to vote the subordinating creditor's claims.

Establish the subordinating creditor's agreement not to oppose the senior creditor's requests for adequate protection, use of cash collateral, or authority to obtain post-petition financing. Specify that any adequate protection or replacement liens granted to the senior creditor will have priority over the subordinating creditor's claims. Address the treatment of any payments received by the subordinating creditor from the bankruptcy estate, requiring turnover to the senior creditor to the extent necessary to satisfy the senior debt in full. Include provisions addressing preference actions, specifying that if either creditor's pre-bankruptcy payments are avoided and recovered by the bankruptcy estate, the subordination will be recalculated to account for such recovery.

Governing Law and Dispute Resolution

Select the governing law for the agreement based on the jurisdiction with the most significant relationship to the transaction, the location of the collateral, or the jurisdiction whose law is most favorable to enforcing subordination agreements. Common choices include New York and Delaware due to their well-developed commercial law and extensive precedent regarding subordination and intercreditor issues. Include a clear statement that the agreement will be governed by and construed in accordance with the laws of the chosen jurisdiction without regard to conflicts of law principles that would apply the law of another jurisdiction.

Establish the exclusive jurisdiction and venue for any disputes arising under the agreement, typically selecting the state and federal courts located in the same jurisdiction as the governing law or in the jurisdiction where the borrower is located or the collateral is situated. Include a consent to jurisdiction provision in which all parties irrevocably submit to the jurisdiction of the specified courts and waive any objection based on inconvenient forum or lack of personal jurisdiction. Consider including a waiver of jury trial provision, which is common in commercial finance transactions and can expedite dispute resolution, though note that such waivers must be conspicuous and knowing to be enforceable in most jurisdictions.

Address whether disputes will be resolved through litigation or alternative dispute resolution. While subordination agreements typically contemplate litigation due to the need for injunctive relief and the involvement of bankruptcy courts, consider whether mediation or arbitration might be appropriate for certain types of disputes. If arbitration is selected, specify the arbitration rules that will apply, the number of arbitrators, the location of arbitration, and whether arbitration decisions are binding and subject to limited judicial review.

Additional Provisions and Protective Clauses

Include a comprehensive severability provision stating that if any provision of the agreement is held invalid or unenforceable by a court of competent jurisdiction, such invalidity will not affect the remaining provisions, which will continue in full force and effect. Specify that if a court finds any provision overly broad or unenforceable as written, the court should reform or modify the provision to make it enforceable to the maximum extent permitted by law rather than striking it entirely. This is particularly important for standstill provisions and remedy limitations that courts sometimes view skeptically.

Draft an entire agreement clause confirming that the subordination agreement constitutes the complete and exclusive statement of the agreement between the parties regarding subordination and supersedes all prior negotiations, understandings, and agreements whether written or oral. Specify that no party has relied on any representation or promise not expressly set forth in the agreement. Include an anti-reliance provision stating that each party has conducted its own independent investigation and analysis and is not relying on the other parties for legal, financial, or business advice.

Address amendment and waiver procedures, requiring that any modification to the agreement be in writing and signed by all parties whose rights are affected. Specify that no waiver of any provision will be effective unless in writing and signed by the party granting the waiver, and that no waiver will constitute a continuing waiver or a waiver of any other provision. Include a provision stating that the failure to exercise any right or remedy will not constitute a waiver of that right or remedy or prevent its future exercise.

Establish provisions regarding successors and assigns, specifying that the agreement binds and benefits the parties' respective successors and permitted assigns. Address whether the subordinating creditor may assign their rights under the subordinated debt and, if so, require that any assignee agree to be bound by the subordination. Specify that the senior creditor may assign the agreement in connection with any assignment of the senior debt without the subordinating creditor's consent, and that the subordination will benefit any such assignee. If the senior debt may be participated or syndicated, clarify that the subordination benefits all participants and syndicate members.

Include notice provisions specifying the addresses to which all notices, demands, and communications must be sent and the methods of delivery that will be considered effective. Typical provisions allow for delivery by hand, overnight courier, certified mail return receipt requested, or email with confirmation of receipt. Specify when notices are deemed received based on the method of delivery, such as upon delivery if hand-delivered, one business day after sending if sent by overnight courier, or three business days after mailing if sent by certified mail. Include provisions allowing parties to change their notice addresses by providing written notice to the other parties.

Address counterparts and electronic signatures, providing that the agreement may be executed in multiple counterparts, each of which will be deemed an original and all of which together will constitute one agreement. Include provisions recognizing the validity of electronic signatures and electronically transmitted signature pages, which is particularly important for transactions involving parties in multiple locations. Specify that the agreement will be effective when all parties have executed at least one counterpart, regardless of whether all parties have executed the same counterpart.

Execution and Delivery Requirements

Prepare signature blocks for all parties that comply with the execution requirements of the governing law and any recording requirements if the agreement must be filed in public records. For corporate parties, include the full legal name of the entity, a signature line, the printed name of the person signing, and their title such as President, Vice President, or Authorized Signatory. Verify that the person signing has authority to bind the entity, either through their officer position or through a specific authorization from the board of directors or other governing body. For limited liability companies, ensure the signature block reflects the proper title such as Manager or Member and complies with the LLC's operating agreement regarding execution authority.

If the subordination agreement must be recorded in real property records because it subordinates a mortgage or deed of trust, ensure the execution formalities satisfy the recording requirements of the jurisdiction where the property is located. This typically requires notarization with a proper acknowledgment form, and may require witnesses depending on state law. Include the appropriate acknowledgment language for the jurisdiction, which varies significantly between states. Verify whether the acknowledgment must be in a specific form or whether substantial compliance is sufficient.

For agreements that will be filed with UCC financing statements or amendments, ensure the execution complies with Article 9 of the Uniform Commercial Code as adopted in the relevant jurisdiction. While UCC filings typically do not require notarization, the underlying subordination agreement may need to be attached to the filing, so ensure the execution is sufficient to make the agreement admissible as evidence if necessary.

Consider whether any party should provide a certificate of authority, such as a secretary's certificate confirming that the signatory has authority to execute the agreement and that all necessary corporate approvals have been obtained. For significant transactions, it is common to require certified resolutions of the board of directors or other governing body authorizing the subordination. If any party is a trust, partnership, or other entity with special execution requirements, ensure the signature block and any accompanying certificates comply with the entity's governing documents and applicable law.

Final Document Preparation and Quality Control

Prepare the final subordination agreement as a polished, professional document suitable for execution by sophisticated commercial parties and review by experienced legal counsel. Ensure all defined terms are used consistently throughout the document and that each defined term is actually used in the operative provisions. Verify that all cross-references to sections, exhibits, and schedules are accurate and that the numbering system is consistent and logical. Review the document for internal consistency, ensuring that provisions do not contradict each other and that the rights and obligations of each party are clearly established.

Format the document professionally with clear headings and subheadings that allow readers to navigate the agreement easily. Use a hierarchical numbering system that facilitates cross-referencing, such as numbered articles with lettered or numbered subsections. Include a table of contents if the agreement is lengthy or complex. Ensure adequate white space and margins for readability and to allow for binding or hole-punching if the agreement will be maintained in physical form.

Prepare any exhibits or schedules referenced in the agreement, such as a schedule of senior debt documents, a legal description of collateral, or forms of notices. Ensure exhibits are clearly labeled and referenced in the body of the agreement. If the agreement references other documents such as loan agreements or security instruments, verify that the references are accurate including the date of execution, the parties to the document, and any amendment or restatement information.

Review the agreement for compliance with any specific requirements imposed by the senior lender, rating agencies, or other parties to the transaction. If the subordination agreement must satisfy conditions in a commitment letter or term sheet, verify that all required provisions have been included. Consider whether any additional provisions would be appropriate based on the specific circumstances of the transaction, such as provisions addressing environmental liabilities, intellectual property, or specific regulatory requirements applicable to the borrower's business.

Your final deliverable should be a comprehensive subordination agreement that clearly establishes the priority of creditor claims, protects the senior creditor's position, provides appropriate limited rights to the subordinating creditor, and creates a legally enforceable framework that will be respected by courts including bankruptcy courts. The agreement should reflect sophisticated commercial practice while remaining clear and accessible to all parties involved in the transaction.