Recourse

Recourse

What is recourse?
Recourse is the lender’s legal right to pursue a borrower’s assets to satisfy a debt when the borrower defaults. In a recourse loan, the lender can seize the pledged collateral and — if the collateral’s value is insufficient — seek other borrower assets or court remedies (deficiency judgment, bank levies, wage garnishment) to recover the remaining balance.

Key points
* Recourse favors lenders; non-recourse favors borrowers.
* Full recourse allows a lender to pursue any available borrower assets to repay the debt.
* Limited recourse restricts which additional assets (if any) a lender may access.
* Common recourse loans: credit cards, personal loans, and auto loans.
* Non-recourse loans generally limit the lender to the pledged collateral only (common in certain commercial real estate loans).

Recourse vs. non-recourse
* Recourse loan: If collateral sale doesn’t cover the debt, the lender may obtain a deficiency judgment and collect against other borrower assets or income.
* Non-recourse loan: The lender’s recovery is limited to the collateral. If a shortfall remains after selling the collateral, the lender cannot pursue the borrower’s other assets.
* Cost and availability: Non-recourse loans are riskier for lenders, so they often carry higher interest rates and are typically offered for longer-term, stabilized assets.

Tax implications for borrowers
* Cancellation of debt (COD) income: If a lender forgives debt that it could otherwise collect (typical in recourse situations), the forgiven amount is generally taxable as ordinary income.
– Example: Lender forgives a $25,000 deficiency after foreclosure — that $25,000 is usually taxable income to the borrower.
* Non-recourse loans: Forgiveness arising solely from the lender taking the collateral (with no personal claim) generally does not create COD income.
* Sale reporting: Borrowers must report any gain or loss based on the difference between the loan balance and amount realized on the sale of the collateral. Losses from disposition of deficient assets are generally not deductible as ordinary losses.

Special considerations
* Loan documents: Most loans include recourse language that spells out lender remedies and any limitations.
* State law matters: Whether and how lenders can pursue deficiency judgments varies by state. Some states limit deficiency amounts or prohibit deficiency judgments after certain foreclosure procedures.
* Types of loans: Recourse is common for consumer and many commercial loans; true non-recourse financing is more typical for certain commercial real estate and structured financings on stabilized assets.

Example
A delivery company borrows $200,000 (recourse) to buy trucks and pledges those trucks as collateral. After a business downturn the trucks are repossessed and sold for $75,000, leaving a $50,000 shortfall. Because the loan is recourse, the bank can seek other company assets to recover the $50,000, and the parties may agree that specific equipment valued at $50,000 be transferred to the bank.

Common questions
What is a non-recourse loan?
A non-recourse loan limits lender recovery to the collateral. If collateral sale doesn’t cover the debt, the lender cannot pursue the borrower’s other assets.

What is limited recourse debt?
Limited recourse grants the lender rights to only specified additional assets (listed in the loan contract) rather than all borrower assets.

What is full-recourse debt?
Full recourse permits the lender to pursue any borrower assets to satisfy the outstanding obligation beyond the collateral.

What recourse do I have against a home builder?
If a builder’s work is defective, remedies include checking warranties and contracts, filing complaints with consumer protection agencies (e.g., Better Business Bureau, FTC), and pursuing breach of contract or negligence claims. Consult a lawyer to evaluate warranty coverage and legal options.

What is recourse debt in a partnership?
In a general partnership, partners may be personally liable for partnership debt (lenders can pursue personal assets if partnership assets and collateral are insufficient). In entities with limited liability (e.g., many LLCs), partner/owner exposure is typically restricted according to the entity’s structure and loan terms.