Legal Definitions - marshaling assets, rule of

The rule of marshaling assets is a legal principle designed to ensure fairness among creditors when a debtor has multiple assets and multiple debts. It applies in situations where one creditor (often called the "senior" or "paramount" creditor) has a claim or lien against two or more of the debtor's assets, while another creditor (the "junior" or "subordinate" creditor) has a claim against only one of those same assets.

The core purpose of this rule is to prevent the senior creditor from satisfying their debt solely from the asset that is the junior creditor's *only* source of repayment. Instead, the senior creditor is compelled to seek repayment first from the assets that the junior creditor *cannot* access, or from other available assets, to the extent possible. This action helps to preserve the junior creditor's opportunity to recover their debt from their sole source of collateral, preventing an unfair outcome where the junior creditor is completely deprived of their claim.

Here are some examples illustrating how the rule of marshaling assets might apply:

• Real Estate Mortgages: Imagine a homeowner who owns two properties, Property A and Property B. A large bank holds a mortgage (a lien) on both Property A and Property B. Separately, a smaller credit union holds a second mortgage, but only on Property A. If the homeowner defaults on both loans, the large bank is the senior creditor with access to both properties, while the credit union is the junior creditor with access only to Property A.

  Under the rule of marshaling assets, the large bank would typically be compelled to first seek repayment from Property B (which the credit union has no claim against) before turning to Property A. This ensures that the credit union has a chance to recover its debt from Property A, as it is its only source of collateral, rather than being completely shut out if the large bank were to exhaust Property A first.

• Business Assets and Loans: Consider a manufacturing company that obtains a substantial loan from a commercial bank, securing it with a lien on *all* its assets, including its factory building, machinery, and inventory. Later, the company takes out a smaller, specialized loan from an equipment financing company, securing it *only* with its machinery. If the company faces financial difficulties and defaults on both loans, the commercial bank is the senior creditor with a claim against multiple asset types, while the equipment financing company is the junior creditor with a claim only against the machinery.

  If the commercial bank were to seize and sell all the machinery first, the equipment financing company would be left with no collateral to recover its loan. The rule of marshaling assets would require the commercial bank to satisfy its debt first from the factory building or inventory, if those assets are sufficient, before claiming the machinery. This action protects the equipment financing company's sole source of repayment.

• Estate Administration: Suppose an individual passes away, leaving an estate that includes a valuable art collection and a diversified investment portfolio. A major financial institution holds a general lien against *both* the art collection and the investment portfolio for a large personal loan. A smaller, private lender, however, holds a specific lien *only* against the art collection for a separate, smaller loan.

  In this scenario, the financial institution is the senior creditor with claims against two distinct asset pools. The private lender is the junior creditor with a claim against only one of those pools (the art collection). To ensure fairness to the private lender, the estate's executor, guided by the rule of marshaling assets, would be directed to use the investment portfolio first to satisfy the major financial institution's debt. This action would preserve the art collection, allowing the private lender to recover their loan from their specific collateral, rather than being completely deprived of their claim.