What are Non-Recourse Loans?
Non-recourse loans are typically loans secured by collateral (often real estate). However, if a borrower defaults, they cannot be held personally liable and lenders may not seize their personal property or garnish wages. Instead, the lender must accept a certain amount of loss.Start Your Application and Unlock the Power of Choice$5.6M offered by a Bank at 6.1%$1.2M offered by a Bank at 6.0%$2M offered by an Agency at 5.6%$1.4M offered by a Credit Union at 6.1%Click Here to Get Quotes!
Non-Recourse Loans and the HUD 223(f) Loan Program
Non-recourse loans are typically loans secured by collateral (often real estate). However, if a borrower defaults, they cannot be held personally liable and lenders may not seize their personal property or garnish wages. Instead, the lender must accept a certain amount of loss. HUD multifamily loans, including HUD 223(f), HUD 221(d)(4), and HUD 232 loans are all non-recourse loans.
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What is a non-recourse loan?
A non-recourse loan is a type of loan where the lender is only able to pursue the collateral of the loan in the event of a default. This means that the lender cannot pursue the borrower’s personal assets or wages in the event of a default. Most CMBS financing, Fannie Mae® and Freddie Mac® multifamily loans, mezzanine loans, life company loans, and HUD multifamily loans are generally non-recourse financial instruments.
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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. This can be especially beneficial for developers who are just starting out and don't have a lot of assets to protect.
Advantages of Non-Recourse Loans for Borrowers include the lack of any personal liability, the ability to borrow more, and the potential for less complicated syndication or partnership. Additionally, with Freddie Mac Small Balance Loans, borrowers do not have to sign a personal guarantee (PG), putting their personal property up as collateral if they default on their loan.
What are the risks associated with a non-recourse loan?
The main risks associated with a non-recourse loan are tied to the loan terms a borrower can receive. Because the risks to a lender are higher than with recourse debt, a lender will typically pass this on in the form of higher interest rates, or lower loan amounts relative to the property value to offset the risk. This typically makes non-recourse financing more expensive.
Another potential risk is tied to exceptions to the non-recourse clause in the loan. While it’s true that a lender generally cannot pursue a borrower’s personal assets or income outside of the property itself, most non-recourse loans include language for what are known as bad boy carve-outs. These provisions essentially state that, should the borrower misrepresent a property or themselves, or file fraudulent financial documents — like tax returns or financial statements — the borrower is no longer protected by the non-recourse clause and is fully responsible for the loan. They may also cover other acts, such as raising subordinate financing when it’s not allowed, or even paying real estate taxes late.
What types of commercial real estate can be financed with a non-recourse loan?
Non-recourse financing is typically available for Class A office or multifamily properties in major MSAs (i.e., New York or Los Angeles). Property income — both past and present — is also a determining factor, as well as the requested amount of leverage. In general, non-recourse loans typically have a higher interest rate than their recourse counterparts.
Non-recourse commercial mortgage loans are also generally only available to borrowers that are very strong financially. In these cases, a default is significantly less likely because the borrower has the financial means to make sure that the property’s income is used for the property. Commercial mortgage lenders will also require a very experienced borrower for making a non-recourse loan.
What are the requirements for obtaining a non-recourse loan?
In order to qualify for a non-recourse loan, commercial lenders often have strict eligibility requirements. Most non-recourse programs can only be utilized for the financing of certain property types and classes. For example, a borrower might find it much easier to secure non-recourse financing for a class A office or multifamily property in a major MSA (i.e. New York or Los Angeles), while a class B retail property in a small market is likely to not qualify for non-recourse lending. The income that a commercial property produces (both past and present) is also a determining factor. Additionally, lenders tend to analyze the requested amount of leverage.
Non-recourse commercial mortgage loans tend to have higher interest rates than their recourse counterparts, and are also generally only available to borrowers that have a very strong financial profile. Lenders can be pretty strict about this, the thought process being that a default is significantly less likely in this scenario because the borrower has the financial means to make sure that the property’s income is reinvested into the property. Aside from strong finances, commercial mortgage lenders also require a very experienced borrower with ample "skin in the game" for non-recourse financing.