Individuals and businesses go to credit institutions when they have to borrow money. The lender is compensated if it receives interest on the amount borrowed, unless the borrower is late in its payments. The lender could demand a subordination agreement to protect its interests if the borrower places additional pawn rights against the property, z.B. if he takes out a second mortgage. The preference for debt repayment plays an important role when a borrower is either insolvent or declared bankruptThe legal status of a human or non-human entity (a company or government agency) is unable to repay its outstanding debts to creditors. A subordination agreement recognizes that one party`s right to interest or debt is subordinated to another party when the borrower`s assets are liquidated. For non-shareholder loans, subordination rules are applied In a literal interpretation, the law provides that only subordinated receivables from shareholder loans can be left out in an over-indebtedness balance sheet. Even before the decision, subordination agreements were entered into for debts other than shareholder loans. The parties and their lawyers still expected this subordination to have the desired effect on the over-indebtedness test. The Bundesgerichtshof confirmed that Section 19 of the Insolvency Code applies to both shareholder loans and all other types of receivables (z.B. Mezzanine-Finanzierung). This gives legal certainty to an established practice.
The fact that guarantees no longer exist is generally considered an undesirable consequence. As a result, there have been some unsuccessful calls for a change in the law, and some legal experts have argued in favour of limiting the applicability of the participation approach of Article 1378 of the Civil Code, particularly in situations where innovation does not aggravate the position of third-party security providers. These attempts have been challenged by others who emphasize general contractual freedom. These deviants argue that a change in guaranteed liability that goes beyond the scope of a simple amendment (Article 1379 BGB) without the consent of the third-party security provider would not be compatible with the principle that, regardless of a deterioration in the guarantees granted, everyone (including a third-party security provider) may decide to enter into an agreement himself. The ILO is a premium online legal update service for large companies and law firms around the world. Inhouse Corporate Counsel and other legal service users as well as law firm partners are entitled to a free subscription. In addition to the subordination of Article 725 II CO, which is an instrument of corporate law and which can enable restructuring operations, subordination agreements can be used to ensure the payment of debts to one or more specified creditors and to be used most often in financing transactions. Since the subordination of Article 725 II benefits all other creditors, it is often referred to as general subordination. This contrasts with subordination agreements, which should only benefit certain lenders, i.e. provide for relative subordination. If subordination is not to have the effect of Section 725 II CO, it is not obliged to meet the requirements described above. However, in most cases, a subordination agreement will include a stay and a ban on repayment or delay in order to ensure the expected effect of subordination.