The way secured and unsecured creditors are treated can substantially affect your business’s financial health during tough times. Secured creditors get first rights to take back assets when debtors can’t pay, while unsecured creditors must wait their turn and often face reduced returns.
Your position can make a huge difference to your financial security, so it’s important to know the key differences between these creditor types.
What is a Secured vs Unsecured Creditor?
The difference between creditor types comes down to whether they hold security over assets as collateral for debts.
Definition of a Secured Creditor
A secured creditor is a creditor whose debt is tied to or secured by a company’s assets. This security acts as collateral against money loaned or credit extended.
Mortgages are one of the most common types of secured debt, where the loan is secured by the property itself. Similarly, a car loan is secured by a car, and a business loan can be secured by assets like equipment or inventory.
Definition of an Unsecured Creditor
An unsecured creditor extends credit without getting any specific assets as collateral. These creditors don’t have any security interest over the company’s assets. They provide goods, services, or loans based on the business’s creditworthiness and promise to repay.
Suppliers, contractors, and landlords without bonds are typical unsecured creditors. Employees waiting for wages or superannuation payments are unsecured creditors too, though they get special priority status.
Differences in Legal Standing
Secured creditors can still enforce their security against assets even during the insolvency process. They have the right to take back and sell specific assets they hold security over to recover what they’re owed.
Unsecured creditors must compete with others to get paid from whatever assets remain after secured creditors take their share.
Secured Creditors | Unsecured Creditors | |
Definition | Hold a legal security interest over specific company assets as collateral for a debt. | Provide goods, services or loans without taking security over company assets. |
Common examples | Banks with mortgages, equipment financiers, vehicle lenders, asset-based business loans. | Suppliers, contractors, landlords (without bonds), trade creditors, service providers. |
Collateral | Yes. Debt is secured against nominated assets. | No. Relies on the company’s promise and creditworthiness. |
Priority in insolvency | Paid ahead of unsecured creditors from the sale of secured assets. | Paid only after secured creditors and priority claims are satisfied. |
Risk level | Lower risk due to asset backing. | Higher risk due to lack of collateral. |
How Creditor Status Affects Insolvency Outcomes
A company’s insolvency process determines how much creditors get paid based on their classification. Liquidation follows strict rules about payment order and amounts.
Priority of Payments in Liquidation
- The liquidation costs get paid first to let professionals complete the process.
- Secured creditors who hold security over company assets receive their payment next.
- Any remaining funds go to priority unsecured creditors, usually employees.
- Ordinary unsecured creditors come after them.
- Shareholders are the final group receiving any leftover funds.
Rights to Enforce Security
Secured creditors can recover their debts by selling or taking back secured assets. They have three options: they can appoint a receiver to sell secured assets, ask the liquidator to handle them, or give up their security interest to the liquidator. Secured creditors can also file a proof of debt if they expect to get less than what they’re owed from selling their security.
Dividend Distribution for Unsecured Creditors
After paying secured and priority creditors, unsecured creditors split what’s left. Each creditor gets paid based on their claim size, but they might only get a few cents per dollar. Many liquidations leave nothing for unsecured creditors because there aren’t enough assets to sell.
Employee Entitlements and Special Priority
Employees get special priority among unsecured creditors. Their payments follow a specific order: wages and superannuation come first, then leave entitlements, and finally retrenchment payments. The Fair Entitlements Guarantee (FEG) can help employees recover some money, even when the company’s assets don’t cover what they’re owed.
Understanding Security Interests and the PPSR
Your success as a creditor depends on your grasp of security interests and their protection through Australia’s registration system.
What is a Security Interest?
A security interest gives creditors legal rights over their debtor’s property. The creditor can claim specific assets if the debtor fails to meet their obligations. You’ll see this in mortgages, secured car loans, and equipment financing deals.
How the PPSR Works in Australia
The Personal Property Securities Register (PPSR) lets you register and search security interests in personal property across Australia. Businesses can use this system any time to establish their priority claims over collateral.
Why Registration Matters for Secured Creditors
Registering your interest on the PPSR gives you priority over anyone who hasn’t registered. You might own the asset outright, but without registration, you could end up as an unsecured creditor if insolvency happens.
Common Mistakes in Registering Security
Unfortunately, small errors can make your registration invalid. People often make these mistakes:
- Using ABN instead of ACN to identify companies
- Picking wrong collateral classes
- Getting vehicle and equipment serial numbers wrong
- Not meeting registration deadlines
Steps to Protect Your Position as a Creditor
Smart creditors know how to protect themselves in today’s business environment, and there are some simple steps you can take to substantially improve your chances of recovery.
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Registering on the PPSR
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Conducting Credit Checks
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Using Director Guarantees
Personal Property Securities Register registration is a vital step. You'll become an unsecured creditor with minimal recovery chances if you don't register properly. Corporate customer registration needs to happen within 20 business days of the security agreement.
Get the Support You Need From SV Partners
Australian businesses face unique challenges in today’s economy, and protecting your interests needs both watchfulness and expert guidance. Credit checks and early professional advice will help protect your business against losses instead of waiting for problems.
Here at SV Partners, we know the ins and outs of creditor relationships and can provide expert guidance for your specific situation. We provide the right assistance, advice, and services that can help your business navigate any situation.
If you need more information, you can contact us online to make an appointment or phone us on 1800 246 801 for a confidential consultation.