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Hey GG,

Subordinated debt is debt that is paid after other debt outstanding. As long as a company is financially stable, the difference between subordinated and other debt isn't substantial.

If the company is on the verge of bankruptcy, however, the difference is important. If a company files for bankruptcy, any debt that is "senior" to the subordinated debt will be paid before the subordinated debt is paid off.

Say Joe's Horse Buggy's filed for bankruptcy and had $1,000 in assets, $1,000 in senior debt, and $500 in subordinated debt. Assuming no other claims and no negotiated settlement, the holders of hte senior debt would be paid in full while the holders of subordinated debt would be left with zilch. Yuck.

Companies usually pay a slightly higher interest to compensate subordinated debt holders for the increased risk of default.

Fool on,

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