If the moment has come for you to take out a loan, the options are innumerable. One variable to pay close attention to is whether you qualify for a non-recourse loan. Examine if one is right for you.
Right in the name of non-recourse lending is the fact that the lender will have no additional recourse if the borrower defaults. This does not mean the lender cannot seize any assets at all. If the borrower defaults, the loan provider will be able to take agreed-upon assets that are detailed in the contract but only said assets.
On the other hand, a recourse loan gives the borrower the right to pursue additional assets to cover the loan’s remaining balance. Here’s a theoretical example.
Say you take out a $50,000 loan to purchase a piece of machinery for your business. The machine itself is the collateral for the loan. Due to difficulties, you cannot keep up with payments and must default after two years. To that point, you have paid down $10,000 on the loan, leaving a $40,000 balance due.
The lender seizes the machine so they can sell it to cover the loan. However, the equipment has depreciated to a market value of $35,000. The lender sees a $5,000 loss on the loan.
With a recourse loan, the lender can sue to have the borrower’s wages garnished or go after the borrower’s other assets to recoup the lost $5,000. With non-recourse lending, the lender can only seize the collateral previously agreed upon in the loan contract (in this case, the machine). Clearly, this raises the risk to the lender and is an attractive option to the borrower.
Since the lender takes on more significant risk, fewer lending businesses are willing to offer non-recourse loans. The majority of banks do not offer them at all. Institutions that provide them will expect the borrower to have impeccable credit because of the level of risk.
Rates and Terms
As is typical with all loans, the greater the risk is to the lender, the higher the interest rates are for the borrower. Terms will also be more stringent. Keep in mind that lenders may not necessarily go after assets beyond collateral with recourse loans because of the expense and time involved. It is often easier to just write off the loss.
Non-recourse lending can provide you with the security of not losing more than your predetermined collateral if you default on your loan. Being approved for such is a sign that you are considered a responsible borrower. Consider if the higher rates and strict terms could make it the best choice for you.