Strange Subordinations: Correcting Bankruptcy's @ 510(b)

Abstract:     
Accepting the premise of ?510(b) that rescission claims of junior claimants should not have the seniority of debt, Prof. Georgakopoulos examines its operation and finds four implementation errors. The subordination to the "same priority as common stock" is excessive and provides insufficient deterrence from securities fraud. The subordination of claims arising from (re)sales to the corporation is excessive because any overreaching transactions it prevents would be easy to identify, while it mistreats honest transactions. But the greatest errors of ?510(b) are the subordination of claims from the purchase of subsidiaries? stock, which allows similar transactions to have vastly different results, and the subordination of claims from the purchase of other securities. Both eliminate deterrence against defrauding securities purchasers while the (parent) corporation is insolvent. Since such an error cannot have been intended, ?510(b) should be interpreted to apply only to claims arising during solvency.

JEL Classification: K29, K22

Accepted Paper Series