We are considering seller financing for twenty percent of our transaction, but the buyer's senior lender is demanding a complete subordination agreement that freezes our payments if the buyer covenants are breached. How do we negotiate a subordinate but paid structure that allows us to collect interest as long as the business remains operational?

Question

Tyler Smith · Accepted Answer

Senior lenders will always demand subordination to protect their capital, but a blanket subordination agreement that can freeze your seller note payments over minor technical defaults is a major risk. You must negotiate a block-payment carve-out in the subordination agreement to keep your cash flowing.

Start by defining what constitutes a payment blockage event. The senior lender should only be allowed to freeze your junior payments during a payment default on the senior debt, not for minor technical covenants like failing to submit an annual report on time. Limit any blockage period to a maximum of 150 days, and specify that the senior lender can only trigger this blockage once in any twelve-month period.

To prove to the senior lender that the business can comfortably support both debt tiers, use your historical financial data and your V/TO® projections. Show them how your operational efficiency, driven by your EOS® tools, ensures a healthy debt-service coverage ratio.

Additionally, structure your seller note to allow unpaid interest to capitalize back into the principal balance during any temporary blockage period, rather than triggering an immediate default. This protects the buyer's short-term liquidity while ensuring you do not lose your principal. By establishing these precise boundaries, you reassure the senior lender while safeguarding your steady stream of retirement income from arbitrary freezes.