With the many different types of loans available to a business owner, it can be confusing as to what each one involves. A non-recourse loan is one that’s secured by collateral which is usually in the form of property. Read on to find out more about this loan and to see if it’s something you may want to apply for.

Common Reasons for a Non-Recourse Loan

Typically, a non-recourse loan is used to finance real estate, shipping or other related projects. These loans have long periods and unknown revenue streams. Another use for these loans is for stock loans and other securities-related lending arrangements.

Non-Recourse Loans

A non-recourse loan is actually loan that’s secured by the pledge of collateral, usually in the form of real property. If a borrower were to be approved for one of these loans and winds up defaulting, the lender can seize the property but that’s the only recourse allowed. Thus, non-recourse loans are usually limited to 50-60% of the loan to value ratio, so that the property itself isn’t worth less than the value of the loan.

The borrower is the first in line to lose when it comes to these loans, but the lender also assumes a significant risk. A lender must underwrite the loan with a lot more care and diligence than in a normal full recourse loan. What this means is that a lender must have significant domain knowledge and financial skill.

Recourse vs. Non-Recourse

The main difference between a recourse and non-recourse loan has to do with the assets a lender can seize if a borrower were to default. Regardless of which type of loan a person has, failing to pay off the loan would result in the lender taking whatever was put up for collateral. In the cases of commercial non-recourse loans, a lender would take the property the borrower put up against the loan. The lender can seize the property, sell it and use the proceeds from the sale to pay off the defaulted loan. The difference in what happens after the sale of the collateral property, is what separates a recourse and non-recourse loan

In contrast to a recourse loan, a non-recourse loan prevents a lender from going after a borrower for personal assets in the event of default. Non-recourse loans are more expensive than traditional loans from a bank, but a borrower can reduce these costs by putting down a bigger down payment or shortening the terms of the loan.

Tax Implications

If a lender agrees to “forgive” the unpaid debt left through an unpaid non-recourse loan, the borrower will receive income according to IRS provisions. Therefore, a borrower will have to declare that money as “forgiven debt” on their income tax return. However, the Mortgage Debt Relief Act of 2007 states that unmarried taxpayers are allowed to exclude up to $1 million if married and filing separate or $2 million if married and doing a joint return. The forgiven income can only be due to debt restructuring or from foreclosure of a person’s principal residence.

A non-recourse loan can seem complex and hard to understand. However, when you learn how these loans work and what the funds can be used for, you can decide if it’s something you may be interested in pursuing. There are many ways of financing a commercial project and a non-recourse loan is just one option available. These loans are a good alternative to tying up your own money or property into a commercial investment. If you have specific questions or would like to begin the process of applying for a non-recourse loan, contact your near lender today for further assistance.

Sources:
http://banking.about.com/od/loans/a/recourseloan.htm
http://www.quickenloans.com/blog/recoursenonrecourseloans