Bankruptcy remote is typically used when discussing a special purpose entity. A bankruptcy remote entity is a separate legal entity whose bankruptcy or insolvency would have a de minimus economic impact on the other entities within the group.
Generally, the bankruptcy remote entity has restrictions placed on it such as, independent-director requirements in the organizational documents in order to reduce the risk that the entity itself will voluntarily file for bankruptcy, be involuntarily forced into bankruptcy as a result of substantive consolidation with an affiliate's bankruptcy, or otherwise be adversely affected by a bankruptcy of its parent or affiliates.
Over time, a company may split off certain departments into their own entities. These entities are often called subsidiaries. This makes the original company the parent company or, in some cases, a holding company. Depending on how much risk a subsidiary presents, the parent company may decide to form the subsidiary as a bankruptcy remote entity. A bankruptcy remote entity helps shield the parent company and other subsidiaries should the one entity go bankrupt.
As discussed above, bankruptcy remote is a form of protection. When one subsidiary goes down, the parent company doesn’t want all the other subsidiaries to be impacted. Bankruptcy remote means the subsidiary is remote from other entities within the holding company. Formation documents must be explicit as to what happens during bankruptcy for any bankruptcy remote entities.
In real estate investing, sometimes the borrowing entity is required to structure itself as a bankruptcy remote. This requirement is usually dependent on the type of loan. The idea is that if the parent company files for bankruptcy, the bankruptcy remote entity is left intact. The borrow, lender, and any other entities involved in financing are protected.
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