The buyer is using senior bank debt to fund the cash portion of our transaction, and the senior lender is demanding that our seller-financed note be fully subordinated, including a complete standstill agreement. How do we negotiate terms that allow us to collect our interest payments while keeping the senior lender satisfied?

Question

Tyler Smith · Accepted Answer

Senior lenders will always demand subordination to protect their capital, but a broad standstill agreement can entirely freeze your seller note payments if the buyer runs into even minor issues. You cannot accept a total block on your debt service without clear boundaries.

To negotiate a balanced subordination agreement, you must secure block-payment carve-outs. Agree that your principal payments can be suspended during a senior default, but insist that scheduled interest payments must continue uninterrupted as long as the senior debt service coverage ratio remains above a reasonable threshold, such as 1.15x.

Next, limit the duration of the standstill period. A standard bank agreement might block you from taking action for an indefinite period. You must negotiate a hard cap on the standstill, typically ninety to one hundred and twenty days. Once this period expires, if the default is not cured, you must have the right to exercise your remedies, including foreclosing on your junior collateral.

Also, ensure that interest continues to compound during any block period. If payments are temporarily frozen, they should accrue at a default rate that is two to three percent higher than the standard rate to compensate you for the increased risk.

Finally, clarify these terms early in the process. Do not wait for the bank's legal team to drop a heavy-handed subordination agreement on your desk two days before closing. Work with your advisors during the LOI phase to specify that any seller note subordination must permit ongoing interest payments and include a limited standstill window.