What Is Non-Recourse Finance?
Non-recourse finance is a type of commercial lending that entitles the lender to repayment only from the profits of the project the loan is funding and not from any other assets of the borrower. Such loans are generally secured by collateral.
A non-recourse loan, more broadly, is any consumer or commercial debt that is secured only by collateral. In case of default, the lender may not seize any assets of the borrower beyond the collateral. A mortgage loan is typically a non-recourse loan.
Key Takeaways
- Non-recourse financing entitles the lender to repayment only from the profits of the project that the loan is funding.
- No other assets of the borrower can be seized to recoup the loan upon default.
- Non-recourse financing typically requires substantial collateral and a higher interest rate and is typically used in land development projects.
Understanding Non-Recourse Finance
Non-recourse financing is a branch of commercial lending that is characterized by high capital expenditures, distant repayment prospects, and uncertain returns.
In fact, it is similar in character and risks to venture capital financing. For example, say a company wants to build a new factory. The borrower presents a bank with a detailed plan for the construction, in addition to a business plan for the greatly-expanded production that it will enable the company to undertake. Repayment can be made only when the factory is up and running, and only with the profits of that production.
The lender is agreeing to terms that do not include access to any of the borrowers' assets beyond the agreed upon collateral, even if they default on the loans. Payments will only be made when and if the funded projects generate revenue. If a project produces no revenue, the lender receives no payment on the debt. Once the collateral is seized, the bank cannot go after the borrowers in hopes of recouping any remaining losses.
Non-recourse loans and recourse loans are subject to different tax treatments in the U.S.
Where Non-Recourse Loans Are Used
Compare a non-recourse loan with the more conventional loan, in which the borrower must begin repaying immediately and in installments every month thereafter. Not surprisingly, interest rates are generally higher on non-recourse loans to compensate for the elevated risk. Substantial collateral is also required.
Non-recourse loans are often used to finance commercial real estate ventures and other projects that involve a long lead time to completion. In the case of real estate, the land provides the collateral for the loan. They also are used in the financial industry, with securities used as collateral.
Special Considerations for Non-Recourse Loans
Non-recourse loans and recourse loans are subject to different tax treatments in the U.S. Non-recourse loans are considered to be paid in full once the underlying asset is seized, regardless of the price at which the asset is sold.
In the case of recourse debt, if the financial institution forgives any part of the debt after the associated asset is seized and sold, the forgiven amount may be treated as ordinary income that the debtor must report to the Internal Revenue Service.
Are Non-Recourse Loans Taxable?
If you default on a non-recourse loan, the amount forgiven or canceled is not taxed.
What Industries Use Non-Recourse Loans?
Non-recourse loans are very popular in the real estate industry, in addition to other industries that have long project timelines. Since there may not be any income at the beginning of the project, a non-recourse loan gives a measure of breathing room to project financers.
Can a Lender Come for My Personal Assets With a Non-Recourse Loan?
No. A non-recourse loan is secured only by the listed collateral. A mortgage is a good example. If you default on your mortgage, the bank can seize the house to recoup their investments, but they can't seize your car or bank accounts.
The Bottom Line
Non-recourse loans offer several benefits to businesses planning large projects, including different tax considerations, and the ability to avoid payment until the project comes to fruition. While it's never ideal to default on a loan, a non-recourse loan can save your other assets from seizure in the event of default.
FAQs
A recourse loan allows a lender to pursue additional assets when a borrower defaults on a loan if the debt's balance surpasses the collateral's value. A non-recourse loan permits the lender to seize only the collateral specified in the loan agreement, even if its value does not cover the entire debt.
What is the difference between non-recourse and recourse loan? ›
There are two types of debts: recourse and nonrecourse. A recourse debt holds the borrower personally liable. All other debt is considered nonrecourse. In general, recourse debt (loans) allows lenders to collect what is owed for the debt even after they've taken collateral (home, credit cards).
What is the difference between recourse and non-recourse patient financing? ›
Discover what's best for the majority of your patients.
In addition, recourse options offer revolving credit lines at no- to low-interest rates and affordable monthly payments. Nonrecourse programs typically require credit scores of at least 640, which excludes almost one-third of Americans.
What is the difference between recourse and limited recourse? ›
Limited recourse debt is debt, such as a loan, that gives the creditor the legal right to certain, but not all, of the borrower's assets if the borrower defaults. Full recourse debt allows creditors to claim any and all of the borrower's assets to fully cover the unpaid portion of a loan.
What is the difference between selling with recourse or without recourse? ›
Recourse factoring is the most common and means that your company must buy back any invoices that the factoring company is unable to collect payment on. You are ultimately responsible for any non-payment. Non-recourse factoring means the factoring company assumes most of the risk of non-payment by your customers.
What are the disadvantages of a non-recourse loan? ›
Lenders can collect the collateral from a non-recourse loan but cannot go after the borrower's other assets by law. Non-recourse loans may have stricter terms, higher rates, and other conditions recourse loans will not have.
What is an example of a recourse loan? ›
Common types of recourse debt are auto loans, credit cards and, in most states, home mortgages. In the case of default, the lender can seize and sell the collateral. If that collateral is not enough to cover the outstanding loan balance, the lender can then go after the borrower's other assets.
Is SBA loan recourse or nonrecourse? ›
Will there be nonrecourse? Or collateral needed for this loan? SBA has no recourse (or will demand compensation or payment) against individuals, shareholders, members, or partners of an eligible recipient unless the 'covered loan' proceeds are used for unauthorized purposes (see above).
What are the benefits of non recourse financing? ›
The primary benefit of non-recourse loans is that they provide a greater degree of protection for the borrower. Without a personal guarantee, the lender cannot seize the borrower's personal assets if they default on the loan.
Are Fannie Mae loans nonrecourse? ›
Fannie Mae and Freddie Mac loans are non-recourse which means in the event of default the borrower is not personally liable for further compensation if the debt is not repaid.
In a non-recourse loan, the Guarantor does not have personal liability.
What is with recourse and without recourse financing? ›
Recourse may allow the lender to seize not only pledged collateral, but also deposit accounts, and sources of income. Conversely, "without recourse" financing means that the lender takes the risk of non-payment by the obligor.
What is a limited recourse loan? ›
A loan used to purchase a single asset or group of assets where the lender's claim on assets is limited to the asset(s) purchased with the loan, if the borrower defaults on the loan.
How to tell if a loan is recourse or nonrecourse? ›
According to the Internal Revenue Service (IRS), recourse debt holds the borrower personally liable for the repayment of the debt. All other debt is considered non-recourse. That includes the pre-settlement legal funding that High Rise Financial offers.
Are DSCR loans non-recourse? ›
Debt Service Coverage Ratio (DSCR)
When leveraging your investment property with a non-recourse loan, it is important to know if the property is capable of covering all its expenses from the rental income produced.
Are mortgages non-recourse loans? ›
Most mortgages are also recourse loans. However, there are 12 states that allow non-recourse mortgages, which means the lender will only be able to foreclose on the home — not any other assets or sources of income.
What are the benefits of a non-recourse loan? ›
The primary benefit of non-recourse loans is that they provide a greater degree of protection for the borrower. Without a personal guarantee, the lender cannot seize the borrower's personal assets if they default on the loan.
Is an FHA loan a non-recourse loan? ›
The benefit to the lender is that the loan is insured by FHA. The benefit to the borrower is that the loan is at a fixed interest rate, often lower than conventional rates, and is non-recourse.
What is the meaning of with recourse and without recourse? ›
Recourse may allow the lender to seize not only pledged collateral, but also deposit accounts, and sources of income. Conversely, "without recourse" financing means that the lender takes the risk of non-payment by the obligor.
