Non-Recourse Loan
A non-recourse loan limits a lender’s recovery to the collateral. Learn how non-recourse loans protect borrowers and where they’re common.
Definition
A non‑recourse loan is a type of financing in which the lender’s remedy in the event of default is limited to seizing the collateral pledged for the loan, typically the property itself, and the lender cannot pursue the borrower’s other assets or income. Non‑recourse loans are common in commercial real estate and some types of project financing. Because the lender assumes more risk, non‑recourse loans may have stricter underwriting standards, higher interest rates, and larger down payment requirements. Borrowers benefit from protection of their personal assets but must ensure the property’s cash flow and value adequately secure the loan.
Why It Matters
The real question is what happens to the rest of your money when a property fails. Non-recourse debt lets the lender take the building and stop there. Recourse debt lets a deficiency judgment follow your savings and wages for years afterward, which makes this distinction matter far more on an investment purchase than a quarter point of rate.
Examples
A $4.2 million apartment loan defaults and the building sells at auction for $3.6 million. Because the loan is non-recourse with standard carve-outs, the sponsor's other properties are untouched.
Because a personal guarantee would be a prohibited transaction, a self-directed IRA buying a rental with $180,000 of debt has to use non-recourse financing or risk disqualifying the account.
A borrower with a non-recourse note diverts insurance proceeds out of the property account after a fire. The bad-boy carve-out converts the entire loan to full recourse.
Tips
Read the carve-out schedule rather than the headline. Fraud, waste, unpermitted transfers and letting insurance lapse flip most non-recourse loans into recourse loans instantly.
Buying inside a retirement account? Get written lender confirmation of non-recourse status before you spend money on an appraisal. Most banks do not write these loans at all.
Underwrite the deal at 30 to 40 percent down with a debt service coverage ratio near 1.25. Modeling it at residential-style leverage produces a deal that no non-recourse lender will fund.
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