For borrowers, one type of loan they can acquire is a secured facility. This is a debt that requires collateral, which is an asset that a borrower puts down as security. The lender can seize this asset and sell it to placate the debt should the borrower default. From here, a recourse loan comes into play.
What is it?
A “recourse loan” refers to a type of loan that assists a lender in recouping their investment. Specifically, if a borrower doesn’t pay and the underlying asset’s value does not cover it. The best way to describe a recourse loan is it’s a form of secured financing. It allows the lender to pursue the debtor’s other assets that were not used as loan collateral. Alternatively, the lender can take legal action in the event of a default in order to fully pay off the debt.
A recourse loan is a secured debt typically found in real estate and automobile loans. They provide lenders with substantial power due to having fewer limits on what lenders can pursue for loan repayment. A recourse loan actually permits the lender to seize the collateral and any of the debtor’s other assets. Moreover, the lender has the option to take legal action against the borrower.
Pros & Cons
Lenders offering hard money loans may approve borrowers that face rejection from other financial institutions. Therefore, borrowers with a credit history that is limited or poor may set their sights on this particular loan. The leniency when it comes to approvals is accompanied by a warning for borrowers. The lender may go after the debtor’s assets if a default occurs. There could be limits on the types of assets that the lender may connect to the loan. This is as good a reason as any to carefully read contracts.
For lenders, a recourse loan diminishes the risk often associated with less creditworthy borrowers. The chances of lenders seizing property beyond the initial collateral can mitigate any worries of the borrower not following through on the debt. However, for borrowers, recourse loans are generally more expensive than bank-provided traditional financing at the going rate. This is usually why lenders prefer issuing recourse loans and borrowers favour non-recourse loans.
What ultimately sets recourse loans apart from non-recourse loans is that – as mentioned before – they are more favourable in the eyes of the lender. A non-recourse loan, meanwhile, is more beneficial to the borrower.
The distinction between these two types of loans becomes evident if there is still some money to be owed on the debt after the collateral is sold. With recourse loans, lenders can pursue other assets in the borrower’s possession. That is if there’s still a balance after the collateral is collected. Non-recourse loan lenders, on the other hand, cannot go after a borrower’s other assets regardless of if there is an outstanding balance after selling the collateral. With that in mind, it is clear to see why borrowers prefer non-recourse loans.
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