# The Loss Waterfall

> Every kind of loss has a fixed order of who absorbs it, and Senior always comes last. Other borrowers never pay for someone else's liquidation.

Canonical: https://spout.finance/docs/loss-waterfall/

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Every kind of loss has a fixed order of who absorbs it, and Senior always comes last. Other borrowers never pay for someone else's liquidation.

## Who absorbs what

| Loss | Who absorbs it, in order |
| --- | --- |
| Bad debt after a liquidation | Insurance Fund, then Junior, then Senior |
| Cost of closing calls during a liquidation | The liquidated borrower's penalty, then the Insurance Fund, then Junior, then Senior |
| A cycle that settles below what was accrued | Junior, then Senior, spread over the following 7 days |
| A contract that settles below zero | Spout. Lenders receive zero for that contract, not a negative amount |

## Example 1: a small bad debt

A pool holds $10m: $8.5m Senior and $1.5m Junior. The Insurance Fund holds $150,000. A gap down leaves $100,000 of bad debt. The Insurance Fund pays all of it. Lenders are untouched.

## Example 2: a large bad debt

Same pool, but the Insurance Fund holds $200,000 and the bad debt is $500,000.

- The Insurance Fund pays $200,000 and is empty.
- Junior absorbs the remaining $300,000, 20% of its $1.5m. Junior's share price falls 20%.

- Senior is untouched.

For a loss to reach Senior here, it would need to use up the Insurance Fund and all $1.5m of Junior first.

## After a loss

The Insurance Fund refills from half of every protocol fee and from liquidation penalties. While it is below its target, the protocol fee stays at 20%, so it refills faster.