First Lien and second lien debt are both forms of senior debt. These debts are both senior, but they are different in their enforcement triggers. In this article, we will outline the difference between first lien and second lien lenders and debts, as well as some of the factors that differentiate them. First, let’s review what a first lien is. In other words, a first lien is an interest-free loan that the lender takes as collateral against an asset. Second-lien lenders, on the other hand, take this as a loan against the property.
First Lien debt is a form of senior debt
The term senior debt can mean a number of things. It may be secured by collateral and used to provide revolving credit lines. Typically, it has a higher priority than first-lien debt, so it is a riskier option. A First Lien Home Equity Loan, for example, is secured by real estate. It is generally taken out after a traditional mortgage. This makes it a type of senior debt.
Senior debt is usually secured by property. If you default on a loan, you may not be able to get your money back. Senior secured debt, like mortgages, is secured by the property of the borrower. If you do not pay it back, a creditor may seize and sell your property. It can be difficult to pay off at the same time as first-lien debt. So how does this type of debt work?
Second Lien debt is a form of senior debt
Many borrowers consider second lien debt a more attractive option than first lien debt because it doesn’t dilute ownership. For middle-market companies, this type of debt can provide the extra capital necessary for growth, while allowing them to retain some control over their business. Second lien debt can also be used to pay down senior debt, leveraged buyout financing, or acquisitions. Because it’s less expensive than other forms of senior debt, second lien debt continues to gain popularity with borrowers.
As with senior debt, second lien debt becomes repayable six months after the due date of the senior debt. However, there are some restrictions on early repayment of second lien debt. Lenders may charge a prepayment fee if the loan is repaid early. If the second lien lender wants to accelerate the loan, they must be notified in advance of the insolvency or default of the first lien debt.
They are both senior forms of debt
While many people may associate First Lien and Second Linen as inferior types of debt, they are actually very similar. A second lien is similar to a second mortgage on a house, and both types of debt provide additional capital for a business. However, second lien debt is a riskier investment than first lien because it uses the same asset to back two different securities. If you default on one loan, all the equity in the home is at risk. A first lien, on the other hand, is secured by an asset and may be less risky.
Although First Lien and Second Linen are both senior forms of debt, they do not have the same priority. They rank behind both senior and junior forms of debt. Unlike senior and junior debt, second lien debt is lien subordinated, but not debt subordinated. This means that a second lien lender can only collect payments if they have a lien on the property. Lien subordination means that you can’t delegate the right of payment of your second-lien debt to the lender who holds the first lien.
They have different enforcement triggers
First lien lenders may assemble a borrowing base of certain Investor commitments and expect to have recourse from all of them. However, the partnership agreement of a Fund typically requires that any capital call be issued pro rata to all Investors. The second lien structure, on the other hand, gives a second lender secured recourse to the same aggregate pool of Investor commitments. Generally, these types of agreements are more complex than the U.S. counterparties.
First lien and second lien lenders must follow the same enforcement triggers for their interests. These triggers are defined by the priority of the Liens. A security agent, in general, takes instructions from creditors holding 66 2/3 percent or more of a senior credit agreement. It applies to payment subordination. Generally, they follow the European approach. However, it depends on whether a negotiation is conducted between the parties.
They have different covenants
While the rights of first lien lenders and second lien lenders are similar, there are a number of differences. Although first lien lenders generally enjoy adequate protection, they may object to the use of cash collateral to satisfy their loans. Cash is not generally a viable alternative to debtor-in-possession financing, as an operating company is unlikely to utilize it for restructuring. However, in some cases, the operating company may be required to use cash for restructuring if early difficulties make the debtor-in-possession financing cap ineffective.
Second-lien lenders have different covenants. Since second-lien loans have lower claim priority than first-lien loans, their covenant packages are usually less restrictive. Maintenance covenants are typically a large percentage lower. Second-lien loans are generally priced higher than first-lien loans. Typically, the premium starts at 200 basis points and can reach up to a thousand basis points if the collateral is less generous.