Article by Nathan Hardman
The equitable doctrine of marshalling is a legal principle that is commonly overlooked. It allows a mezzanine lender to require a senior lender to satisfy their debt from another asset that the Senior Lender has security over instead of the asset secured by the junior lender. Essentially, the doctrine of marshalling enables a mezzanine lender to “marshal” the assets of a debtor to maximize the amount they can recover from the debtor’s assets.
The doctrine of marshalling applies when there are two or more lenders who have security over the same debtor’s assets, but one of the lenders has security over an additional asset. In this situation, the doctrine allows the junior lender to ask the senior lender to first satisfy their debt from the asset that is not subject to the junior lender’s security interest to protect the junior lender’s security from being squeezed out.
For example, imagine that a debtor has two properties, Property A and Property B, and has taken out loans secured against each property. Bank X holds a mortgage on Property A and Bank Y holds a mortgage on both Property A and Property B. If the debtor defaults on their loans and both banks seek to foreclose on the properties, Bank Y would be able to recover the full amount of their loan by selling both properties. However, Bank X would only be able to recover the amount of their loan by selling Property A. In this case, Bank X may request that Bank Y first satisfy their debt from the proceeds of the sale of Property B, so that Bank X can satisfy their debt from the proceeds of the sale of Property A. This would ensure that Bank X is able to recover their debt, even if it is only from one asset.
The doctrine of marshalling is an equitable doctrine, which means that it is based on principles of fairness and justice. The doctrine recognizes that it is unfair for a lender to be forced to suffer a loss, simply because another lender has a greater security interest. By allowing a junior lender to marshal the assets of a debtor, the doctrine aims to ensure that each lender is able to recover as much of their debt as possible, without unfairly prejudicing other lenders.
Therefore, if you are a mezzanine funder and your security is being squeezed out because a senior lender is enforcing its security over your security property when the senior lender was able to enforce its security against another property you may have a marshalling claim against the senior lender.
In conclusion, the equitable doctrine of marshalling is a legal principle that allows a junior lender to request that a senior lender satisfy their debt from a specific asset so that the junior lender can satisfy their own debt from another asset. The doctrine of marshalling applies when there are two or more lenders who have security interests over the same debtor’s assets, but one of the lenders has a security interest over more than one asset. The doctrine is based on principles of fairness and justice and aims to ensure that each lender is able to recover as much of their debt as possible, without unfairly prejudicing other lenders. If you are mezzanine funder and are looking at the prospect of your security being squeezed out by a superior ranked creditor, you may be able to rely on the often overlooked doctrine of marshalling and cause the senior lender to enforce its rights against a different security property.
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