What are Recourse Loans?
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With a recourse loan, the borrower or borrowers personally guarantee the funding amount against their own assets. This ensures that should the borrower default on the loan, lenders can seek financial damages from the borrowers directly. Recourse loans can be beneficial to savvy borrowers since lenders will often view the personal guarantee as their confidence in repaying the loan amount, and are more willing to provide better terms on the note. Sadly, recourse is more commonly required when a borrower or borrowing entity is not financially strong enough on its own, or if the property itself doesn't fall into a category that makes it conventional.
Recourse Loans vs. Non-Recourse Loans
As the alternative to recourse loans, non-recourse loans do not generally allow a lender to pursue a borrower’s non-collateral assets in the case of loan default. However, there are some exceptions to this trait; most non-recourse loan agreements contain “bad boy carve-outs,” which are basically provisions that stipulate that if a borrower engages in certain “bad boy” activities such as fraud, financial misrepresentation, or intentionally declaring bankruptcy, the loan will convert to a recourse structure.
As they apply to multifamily loans, most bank loans, bridge loans, and construction loans are full recourse, while Fannie Mae, Freddie Mac, HUD/FHA Multifamily, and CMBS loans are generally non-recourse.
Related Questions
What is a recourse loan in commercial real estate?
A recourse loan in commercial real estate is a loan that provides the personal guarantee of the person borrowing the money or the person(s) behind the entity borrowing the money. With recourse loans, in the event of a default, in any capacity, usually in the form of falling behind on loan payments, the lender can seek financial damages from the borrower directly, so that if the investor does take a loss on the property it can go after the borrower individually for the balance of the money owed. This can include repossessing personal property, or even garnishing wages from a borrower’s bank account.
What are the advantages and disadvantages of recourse loans?
The main advantage of a recourse loan is that it can enable an investor to borrow more, as the debt is tied to the borrower’s income or total assets. Additionally, lenders may be more willing to provide better terms on the note since the borrower is personally guaranteeing the funding amount against their own assets.
The main disadvantage of a recourse loan is that the borrower is personally liable for the loan should it default. Additionally, lenders may require higher interest rates or lower loan amounts relative to the property value to offset the risk.
What are the eligibility requirements for recourse loans?
In order to be eligible for a recourse loan, borrowers must have a strong financial background and be able to provide a personal guarantee against the loan amount. Additionally, the property must fall into a category that makes it conventional. For example, hard money loans are typically full recourse. It is important to understand the potential liabilities that could arise with a recourse loan, as lenders may pursue a borrower’s personal assets in the event of default.
What are the different types of recourse loans?
Recourse loans are typically bank loans, bridge loans, and construction loans. These types of loans require the borrower to personally guarantee the funding amount against their own assets. This means that if the borrower defaults on the loan, lenders can seek financial damages from the borrowers directly.
Recourse loans can be beneficial to savvy borrowers since lenders will often view the personal guarantee as their confidence in repaying the loan amount, and are more willing to provide better terms on the note.
What are the common terms and conditions of recourse loans?
Recourse loans are loans that provide the personal guarantee of the person borrowing the money or the person(s) behind the entity borrowing the money. Common terms and conditions of recourse loans include:
- The lender can seek financial damages from the borrower directly, so that if the investor does take a loss on the property it can go after the borrower individually for the balance of the money owed.
- The lender may pursue a borrower’s personal assets in the event of default.
- Certain activities, such as fraud or misrepresentation of financial strength, could trigger a bad boy carve-out, which would allow the lender to pursue recourse options.
It is important to understand the potential liabilities that could arise when taking out a recourse loan. Knowing the potential liabilities associated with a recourse loan is critical for any borrower looking to explore their commercial real estate finance options.