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Under the agreement, the four banks will forgo claims to their portion of Chrysler's $6.9 billion debt in exchange for $2 billion in cash when the deal closes, said the people, who spoke on condition of anonymity because the agreement has not been formally announced.
"We view this as a huge step forward," said one of the people.
The people said Treasury needs to persuade all 46 banks and hedge funds that hold Chrysler debt to go along. If not, a bankruptcy filing could still be possible for the nation's third largest automaker.
If the remaining debtholders agree to the deal, that leaves a partnership with Italian automaker Fiat Group SpA as the lone remaining hurdle to Chrysler meeting a government-imposed deadline Thursday to complete a number of major restructuring steps and become eligible for further government aid.
The UAW reached a deal over the weekend that would give it a 55 percent stake in the company and assurances over issues like health care.
Chrysler has been living off $4 billion in government funds since the start of the year and would likely need more to avoid bankruptcy.
The people familiar with the matter said a "surgical" bankruptcy is still possible if all of Chrysler creditors don't go along with the deal, but that it was not the preferred option for resolving Chrysler's problems.
The debt holders and the Treasury Department have been trading proposals in the past several weeks but had remained far apart on how much the creditors would recoup in a Chrysler restructuring. Debt holders last week offered to reduce their debt to $3.75 billion in exchange for a 40 percent stake in the company. Treasury has offered much less generous terms.
The people said the government told the debt holders that they could lose everything if no deal was reached.
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