Posted by John Behle on April 05, 1999 at 23:33:07:
Subordination is the process of letting someone else have priority over you. Picture a checkout line at a grocery store. Subordination is the same as letting someone in line in front of you.
In real estate, subordination has to do with the priority of loans, liens or other interests. Loans and liens are put in line as they are recorded. Therefore a first mortgage is the first one recorded. A second is the second one recorded. It isn’t a type of loan, it is the status and position in line.
If I had a second loan (in a second position) and wanted to “subordinate” my interest to the third loan, I do that through signing and recording a “subordination agreement”. The third then becomes the second and my second becomes a third.
Rather than a checkout line, with real estate it’s more of a cafeteria line - with limited food (equity) at the end of the line. In case of foreclosure, the first is satisfied, then the second, the third and so on. The decision to subordinate has to take into account the amount of equity at the end of the line and the safety of letting someone else have priority.
Subordination is helpful when someone needs to bring new financing into a transaction. Lenders prefer a first or second position. In the case of a “wraparound” loan and refinancing underlying loans, the wrap may be in a second position. If you pay off the first, the second (wrap) automatically falls down into the first position. The only way to “refinance” a first when there is a second, third or other “junior” lien without paying the junior liens off is to have them subordinate.