Bob Dylan, Equitable Subrogation And Equitable Subordination

I am no Bob Dylan expert or collector, so to those of you who are, please take no offense to this e-mail blast.  That said, I do like Dylan (my favorite Dylan tune is “Visions of Johanna”) and in a recent episode of the TV show Billions, two increasingly adverse characters (implausibly) converse by quoting the song “It’s Alright, Ma (I’m Only Bleeding)”: 

                   BOBBY:         He that is not busy being born …

                   TAYLOR:       Is busy dying.

I like the message—or at least what I take as the message and which rings true for an everyday, working lawyer—that one needs to constantly push forward in life and hustle, hustle, hustle, and then hustle some more.  (Although I like the version of the message espoused by Andy Dufresne in The Shawshank Redemption—“Get busy livin’, or get busy dyin’”—better.)

Anyways, the point of this e-mail blast is confusion; most people could have confused the lyrics quoted by Bobby and Taylor for any number of different Dylan songs, or all of them.  I did and had to look it up.  Which leads me to the common (or not-so-common, if one does not hang out with Bankruptcy and commercial or consumer lending lawyers) confusion about the distinctions between Equitable Subrogation and Equitable Subordination, and why it is important that lenders, creditors and their attorneys do not get them mixed up.

Equitable Subrogation.

In Tennessee, equitable subrogation means “the substitution of another person in the place of a creditor, so that the person in whose favor it is exercised succeeds to the rights of the creditor in relation to the debts.”  Dixon v. Morgan, 285 S.W.558, 560 (Tenn. 1926).  Tennessee is a race-notice state, meaning that, generally, a first-filed lien has priority over a later-filed lien.  Tenn. Code Ann. §§ 66-26-101, 105.  Equitable subrogation is an exception to this rule.  Usually, it arises in connection with a refinance secured by real property where a new lender is paying off the original purchase money lender and, understandably, requires a first-priority lien identical to the original lender’s lien; the idea is that a third party who pays off the debt to the obligee mortgagee or lienholder should be subrogated to the same lien priority of that mortgagee or lienholder. 

There are other, often strange and always more complicated, situations in which equitable subrogation may apply—such as a senior lienholder’s inadvertent release of its lien in a refinance situation or a lender’s failure to timely record its lien—and any circumstance that deviates from the ordinary refinance situation merits the attention of experienced real estate and commercial or consumer lending counsel.  (One of these days, we will write about why it is so important to get a HELOC or other open-end line of credit closed, in addition to just paying off the balance, when a borrower sells real property and pays off the open-end indebtedness.)  

Importantly, Tennessee courts will be much less forgiving of recording errors that implicate the doctrine of equitable subrogation when those errors are made by banks or other financial institutions.  Tennessee also recognizes equitable liens, although these are outside the scope of this e-mail blast.  If I still have your attention, the lesson here is that if you are a creditor and have questions about lien priority on real estate collateral, call us at (615) 372-0993 or e-mail us through our website at www.mbslawtn.com, because the consequences of ignoring or putting off legitimate lien priority disputes will be substantial, very costly and probably harsh. 

But let’s not confuse the notion of equitable subrogation (“It’s Alright, Ma (I’m Only Bleeding)”) with equitable subordination (every other Dylan song).

Equitable Subordination.

Equitable subordination, which usually (but not always) arises in Bankruptcy contexts, concerns a court decision to subordinate payments to a creditor to the claims of other, sometimes lower-priority creditors.  The fundamental idea exists in the common law and has been codified at 11 U.S.C. § 510(c), which is also sometimes cited as authority even outside of Bankruptcy courts.  An extraordinary remedy, equitable subordination is usually limited to situations where the creditor claimant engages in some kind of misconduct—fraud, illegality, breach of fiduciary duty, or use of the debtor as alter ego—that injures other creditors and confers and unfair advantage on the claimant.  Equitable subordination is also more likely to be employed when the creditor claimant is an “insider,” as defined at 11 U.S.C. § 101(31), such as a relative or business partner of a natural person debtor, a director, officer, person in control (or a relative of any of these), business partner or general partner of a corporate debtor, or general partner or relative of a general partner of a partnership debtor.  These types of creditor claimants are subject to stricter scrutiny concerning their dealings with the debtor.

If you are a creditor in a Bankruptcy—or other legal—proceeding in Tennessee, and believe that another creditor’s actions have hurt your claim on available proceeds while conferring an unfair advantage on that other creditor, or if you are being accused of the same, send us an e-mail at mikeschwegler@mbslawtn.com, lisarosado@mbslawtn.com and erniewilliams@mbslawtn.com.

Conclusion.

As important as it is to always move forward and be resilient, do not move with such haste—and make sure you do not hire lawyers who move with such haste—that you or your counsel confuse such fundamentally different concepts as equitable subrogation and equitable subordination.  After all, it took Andy Dufresne 19 years of diligently digging his tunnel before he could get busy livin’ on his boat in Zihuatanejo.  If you or your business ever want to discuss the Bankruptcy Code or real estate law, give us a call at (615) 372-0993.

Michael Schwegler