Senior Debt

• Bonds are IOUs of a company that agrees to pay interest and principal to investors until the bonds mature. Because bondholders are lenders to the corporation, they have first priority over assets of the company, commonly referred to as senior debt. The title distinguishes senior debt holders from the junior debt holders. An example of a junior debt is a commercial line of credit. Senior debt also refers to first mortgages secured by your house as collateral. In the case of foreclosure, the first mortgage holder gets priority over a home equity loan or second lien holder.
  
  

Liquidation

• During bankruptcy, the court determines a petitioner's solvency. Chapter 7 under the U.S. Bankruptcy Code involves total liquidation of a company's assets to pay off its creditors. Senior debt holders get first claim to the company's assets followed by employees' salaries and benefits, taxes and unsecured customer depositors leaving little or nothing for unsecured creditors and shareholders. This is why investing in stocks is risky because a company can become worthless to shareholders.
  
  

Subordinated Debt

• Subordinated or junior debt has a secondary claim to the claim of a company's assets similar to a junior debt holder on a mortgage. An example of a junior debt is a commercial line of credit. Preferred stock that combines the features of debt and equity has a subordinate position to senior debt but has priority over common shareholders.
  
  

Settling for Less

• In many instances, a bond investor settles for a fraction of his investment. It is difficult to quantify because each bankruptcy case is different but it is not uncommon for a bondholder to receive pennies on the dollar. A typical corporate bond has a face value of $1,000.