Subordination Agreements Will Decide “Who’s On First”

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By PETER ROSENTHAL, President
V.I.P. Trust Deed Company
February 1996

Q:  I have a potential buyer for my property and I am getting almost everything I have asked for.  The buyer is going to build a house and, in the paperwork, has asked me to sign a subordination agreement.  He explained what it is, but I would like to hear your definition.

A:   Trust me, subordination is a four-letter word.

If you wish, you may classify it with things like the Ebola virus or high-speed car chases.  Let’s just call it disaster waiting to happen.

If you haven’t caught my drift yet, let me give you this four-letter word (if my editor will permit me):  D-O-N’-T!

The most common subordination agreement is a seller carry-back first trust deed on a piece of bare land or an old house that the buyer intends to demolish.

Almost always, a new house, condominium complex, office building or other structure will be built.  The buyer plans to obtain a construction loan for the building of the new structure. The construction loan lender will demand that it be a first trust deed in first position.  Since the seller is carrying the first trust deed, the buyer hopes to get the seller to “subordinate” to the new construction loan.  Sub-ordination is another way to say “move over” or “step out of the way”.

A subordination agreement is a recorded document that basically says, “Yes, I am first, but I am going to allow a new trust deed to be recorded in a position ahead of me in line.  I agree to take a subordinate position.

“I remember an electrician from many years ago who hated Realtors.  he was so proud that he had sold his land in Montrose for “full price” without using a Realtor (though he hated Realtors, he tolerated me).  He carried a first trust deed for most of the sale price, and yes, it contained a subordination agreement.  Any Realtor worth his or her salt would have cautioned this seller and dissuaded him from carrying a trust deed with a subordination agreement.

In this case, units were built on the property; the builder ran over budget and exhausted the funds from the construction loan.  This seller carry-back first trust deed had “subordinated” to the new construction loan, and was now a second trust deed behind a construction loan in foreclosure.

You guessed it – the seller was totally wiped out, solely because of the subordination agreement. Commission for the real estate on the sale of that lot would have been between $2,400 and $3,200.  The seller’s loss was more than $35,000.

Bottom line:  If you don’t like Realtors, consult with an attorney.  If you hate attorneys, check with a CPA.  If you hate them all, seek counseling!

Peter Rosenthal
VIP Trust Deed Company