We agreed to carry a substantial seller note to help get the deal done, but the buyer's senior lender is demanding a subordination agreement that essentially blocks our payments if the buyer breaches their bank covenants. How do we negotiate terms that keep our cash flowing?

Question

Tyler Smith · Accepted Answer

Subordinated seller notes are highly risky because the senior bank always holds the steering wheel. To prevent your seller note from being frozen at the first sign of trouble, you must negotiate a clear payment blockade carve-out. A standard subordination agreement allows the bank to block your payments indefinitely if the buyer defaults on their bank loan. You must limit this blockade period to a maximum of ninety to one hundred and twenty days, and specify that the bank can only trigger one blockade in any twelve-month period. After the blockade period expires, your payments must resume unless the bank has filed a formal foreclosure lawsuit. Additionally, negotiate a payment-in-kind interest option. If a blockade is active, your unpaid interest should compound and accrue at a higher rate rather than simply being wiped out. This keeps the buyer highly motivated to cure their senior bank default. Work with your leadership team during a Level 10 Meeting™ to review the buyer's projected post-close debt service coverage ratio. Ensure they are not taking on so much leverage that a minor operational dip triggers a default. Your seller financing should bridge a gap, not finance a bankruptcy.