What is 'Non-Recourse Finance'

Non-recourse finance is a loan where the lender is only entitled to repayment from the profits of the project the loan is funding, not from other assets of the borrower.

These types of projects are characterized by high capital expenditures, long loan periods and uncertain revenue streams. Analyzing non-recourse financing requires a sound knowledge of the underlying technical domain as well as financial modeling skills.

BREAKING DOWN 'Non-Recourse Finance'

Considered a fairly high-risk undertaking on the part of lenders, non-recourse financing does not include access to any of the borrowers' assets beyond the agreed upon collateral, even if they default on the loans. Payments on such loans can only be made as the funded projects generate revenue. Due to the uncertainty, loan periods are generally long to give ample time for projects to produce returns. Additionally, interest rates are generally higher on non-recourse loans, corresponding to the elevated risk involved. If projects produce no revenue during the loan periods, lenders receive no payments on the debt and cannot go after the borrowers for remaining balances after collateral is seized.

Examples of Recourse versus Non-Recourse Loans

If two people are looking to purchase large assets, such as a homes, and one receives a recourse loan and the other a non-recourse loan, the actions the financial institution can take against each borrower are different. In both cases, the homes may be used as collateral, meaning they can be seized should either borrower default. To recoup costs when the borrowers default, the financial institutions can attempt to sell the homes and use the sale price to pay down the associated debt. If the properties sell for less than the amount owed, the financial institution can pursue only the debtor with the recourse loan. The debtor with the non-recourse loan cannot be pursued for any additional payment beyond the seizure of the asset.

Non-Recourse Loans and Tax Liability

With a recourse debt, if the financial institution forgives any part of the debt after the associated asset is seized and sold, the forgiven amount may be treated as ordinary income that the debtor must report to the Internal Revenue Service. In contrast, non-recourse loans are considered paid-in-full once the underlying asset is seized regardless of the price at which the asset is sold.

Recourse Loans and State Law

Whether individual or organization can enter into a recourse loan for a particular asset is often determined by state law. Some states, such as California, have strict regulations limiting the ability of financial institutions to issue recourse loans, especially for residential real estate purchases.

RELATED TERMS
  1. Non-Recourse Debt

    A type of loan that is secured by collateral, which is usually ...
  2. Recourse

    A legal agreement by which the lender has the rights to pledged ...
  3. Recourse Loan

    A type of loan that allows a lender to seek financial damages ...
  4. Limited Recourse Debt

    A debt in which the creditor has limited claims on the loan in ...
  5. Project Finance

    Defined by the International Project Finance Association (IPFA) ...
  6. Loan

    The act of giving money, property or other material goods to ...
Related Articles
  1. Personal Finance

    Explaining Non-Recourse Debt

    Non-recourse debt limits a lender as to what it can and cannot pursue for collateral.
  2. Personal Finance

    Personal Loans vs. Car Loans

    How to tell whether a personal loan or a car loan is better for you.
  3. Personal Finance

    Understanding Loans

    A loan is the act of giving money, property or other material goods to another party with the expectation of being repaid.
  4. Insights

    An Introduction to Government Loans

    Government loans further policymakers' efforts to create positive social outcomes by offering timely access to capital for qualified candidates.
  5. Investing

    Commercial Real Estate Loans

    Obtaining a commercial real estate loan is quite different from borrowing for residential real estate. Here's what to expect and how to get what you need.
  6. Retirement

    Business Owners: A Guide To Qualified Retirement Plan Loans

    Thinking of adding a loan feature to your company's plan? Here's what you need to know.
  7. Personal Finance

    Understanding Term Loans

    A loan from a bank for a specific amount that has a specified repayment schedule and a floating interest rate.
  8. Managing Wealth

    When Are Personal Loans a Good Idea?

    You never want to borrow money for frivolous reasons, but these five circumstances might warrant it.
  9. Investing

    What are the Five C's of Credit?

    The five C’s of credit are what banks and other lenders evaluate about a potential borrower when making a lending decision. The five C’s are Character, Capacity, Capital, Collateral and Conditions. ...
RELATED FAQS
  1. Are secured personal loans better than unsecured loans?

    Read about the differences between secured loans and unsecured loans and how they are used. Learn about forms of collateral ... Read Answer >>
  2. What are the pros and cons of life insurance policy loans?

    Find out the pros and cons of borrowing against your life insurance policy to help you decide if this loan type is the right ... Read Answer >>
  3. How do construction loans work?

    Construction loans are obtained either by the prospective home owner or the actual builder. There are two types of construction ... Read Answer >>
  4. What are the typical requirements to qualify for closed end credit?

    Learn what closed-end credit is, and the various requirements that borrowers must meet in order to obtain a closed-end credit ... Read Answer >>
Trading Center