Subordination of related party claims in insolvency: A suggestive framework for Asian regimes

Abstract Related party loans, due to their inherent nature, warrant a higher threshold for scrutiny when compared to loans extended by unrelated parties. Why were these monies advanced as loans, carrying higher priority in insolvency, rather than being invested as share capital? Even though such loans might be regarded as having an underlying presumption of self‐interest, all related party loans are not mala fide, and many may serve genuine business needs that benefit the debtor and other stakeholders. Some jurisdictions, such as the United States, take into account these equitable considerations to evaluate whether related party claims warrant subordination in the order of priority during liquidation; while other jurisdictions, such as Germany, automatically subordinate these claims. Notably, Asian jurisdictions exhibit a regulatory vacuum, characterised by the absence of a statutory framework and minimal judicial guidance for subordination of related party claims in insolvency proceedings. The paper argues that a related‐party subordination regime ought to be quintessential in the Asian context, as these regions are characterised by family‐owned business and conglomerates wherein intra‐group lending is prevalent. While bona fide related‐party lending can benefit businesses, external investors may be deterred by uncertainty about the priority of their claims relative to related‐party creditors who could exploit insider status in insolvency. With Asia now approaching a 50% contribution to global GDP, it is imperative to keep up with global standards of creditor protection and legal predictability. In light of this, the paper examines the subordination regimes of the United States, Germany, Spain, and Italy, to ultimately propose a model for Asian countries to enhance creditor confidence and legal certainty with respect to subordination of related party claims, while avoiding overly restrictive rules that could deter legitimate business activity.