equitable subordination

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According to section 510(c) of the Bankruptcy Code, equitable subordination is a common law doctrine that protects unaffiliated creditors (i.e., outsiders, bona fide third party) by giving them rights to corporate assets superior to those of creditors who happen to also be significant shareholders of the firm. This doctrine is designed to remedy the situation that confers an unfair advantage on a single creditor at the expense of others.

For this doctrine to apply, the creditor to be subordinated must be an equity holder and an insider at the company, typically a corporation officer, and must have in some manner behaved unfairly or wrongly toward the corporation and its outside creditors.

[Last updated in November of 2022 by the Wex Definitions Team]