Subordination Clauses in Contracts Explained
What Is a Subordination Clause?
A subordination clause is a provision that establishes the priority ranking of a party's interest relative to another party's interest. When you agree to subordination, you accept that your claim or lien will rank below someone else's — meaning they get paid first if things go wrong.
This concept is critical in lending, real estate, and commercial leases, where multiple parties may have competing claims to the same property or assets.
Common Uses
Real Estate and Lending
A second mortgage holder's position is subordinate to the first mortgage. If the property is foreclosed, the first mortgage lender is paid in full before the second lender receives anything. Subordination agreements formalize this hierarchy.
Commercial Leases
Landlords often require tenants to sign subordination clauses making the lease subordinate to any existing or future mortgage on the property. This means if the landlord defaults on the mortgage and the property is foreclosed, the new owner is not bound by your lease.
Business Lending
In multi-creditor situations, a subordination agreement determines which lender has first claim to the borrower's assets. Junior (subordinated) debt holders accept higher risk in exchange for typically higher interest rates.
What to Watch For
- Automatic subordination: Some clauses automatically subordinate your interest to any future liens, not just current ones
- No SNDA protection: In commercial leases, a subordination clause without a nondisturbance agreement means your lease could be wiped out in a foreclosure
- Broad language: Subordination to "all encumbrances" may include claims you did not anticipate
When to Consult a Lawyer
Before agreeing to subordination, consider having an attorney negotiate a subordination, nondisturbance, and attornment (SNDA) agreement that protects your position even if the property changes hands.
This article is for informational purposes only and does not constitute legal advice. Consult a licensed attorney for guidance specific to your situation.