Preferred creditor definition

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What is a Preferred Creditor?

A preferred creditor has the right to obtain payment from a business ahead of other creditors. This status is of most importance when a debtor enters bankruptcy and there are not enough residual assets to pay all creditors. Preferred status is conferred when a creditor obtains a valid lien on the debtor's assets or a right to payment by some other means. Preferred status may also be conferred on employees and tax authorities, depending on what they are owed.

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Advantages of Being a Preferred Creditor

Typically, a preferred creditor may be able to obtain the full amount owed by a debtor, while general (unsecured) creditors obtain reduced payments or no payments at all (depending on how many residual assets a debtor has left).

Example of a Preferred Creditor

Here are several examples of preferred creditors:

  • Lender. A bank issues a loan to a borrower in exchange for collateral; the collateral allows the bank to obtain full repayment if the borrower enters bankruptcy.

  • Government. A government entity has a legal right to obtain unpaid taxes from a bankrupt business, ahead of unsecured creditors.

  • Creditor. A creditor requires the main investor in a corporation to sign a personal guarantee that he will pay for its debts. This guarantee allows the creditor to obtain full repayment from the investor, if the corporation cannot pay.