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Subordination is the act or process by which one person or creditor’s rights or claims are ranked below those of others, dealing with the distribution priority of debts between creditors.

A contractual subordination agreement is a contractual arrangement whereby one creditor agrees to subordinate its claim against debtor in favor of another, and is enforceable in bankruptcy to the same extent they are enforceable under applicable non-bankruptcy law.

The subordination of a claim is usually aimed at leveling off, as practically as possible, the effects of the inequitable conduct of a claimant in acquiring or asserting his claim to prevent injustice or unfairness in bankruptcy situations. For instance, equitable subordination protects unaffiliated creditors against persons who are creditors and shareholders, enabling a court to recharacterize debt owed by a corporation to controlling shareholders as equity

Subordination is not a recovery for wrongdoing; rather, it involves exercise of equitable powers of the bankruptcy court in making distribution of debtor’s assets. 

See: 11 U.S. Code § 510

[Last updated in October of 2021 by the Wex Definitions Team]