Recourse and Non Recourse | Definition and Bad Boy Carve Outs

Definition

Recourse describes whether a lender can look beyond the pledged collateral to recover what it is owed.

Recourse debt. The sponsor, or a named guarantor, personally stands behind the loan. If the lender forecloses, sells the asset and the proceeds fall short of the balance plus costs, the lender can pursue that guarantor for the deficiency out of personal or other business assets. Recourse can be full, covering the entire balance, or partial, capped at an agreed amount or percentage that sometimes steps down as the loan performs.

Non recourse debt. The lender's remedy is limited to the collateral. A shortfall on sale is the lender's loss. The borrowing entity is normally a single purpose entity holding one asset and nothing else, which is what makes that limitation meaningful.

The practical distinction: recourse gives the lender a second source of repayment. Non recourse gives it one. Everything else about how the two are structured and priced follows from that.

Bad Boy Carve Outs, and Why They Exist

A pure non recourse loan creates an obvious problem. A borrower with no personal exposure has weaker incentives to look after collateral they may be about to lose. Carve outs restore those incentives by making specific misconduct personally expensive.

They are called bad boy carve outs, or more formally non recourse carve outs, and they are documented in a separate guaranty signed by the sponsor or a creditworthy principal. The loan remains non recourse for ordinary business risk, a market that turned, a tenant that left, a plan that did not work, and becomes recourse for conduct.

A sponsor evaluating non recourse debt who has not read the carve out guaranty has not read the loan.

Loss Recourse Against Springing Recourse

This is the distinction that decides how much a carve out can actually cost, and it is routinely overlooked.

Loss recourse. The guarantor is liable for the damage the act caused, and no more. A sponsor who applies $200,000 of rents to something other than the property in breach of the loan documents has created roughly $200,000 of exposure. Unpleasant, contained, proportionate.

Springing or full recourse. The occurrence of the event converts the entire loan balance to personal recourse. On a $30,000,000 loan, a single triggering act creates $30,000,000 of personal liability regardless of what the act itself cost the lender.

The events that normally spring are not accidents of the market. They are transfers, junior debt and bankruptcy, all things a sponsor controls and all things that can be done inadvertently. The most common real world trigger is not misconduct at all: it is an ownership transfer inside the sponsor's own structure, an estate plan, a partner buyout, a recapitalisation, a change of control at the manager, executed without going to the lender first because nobody realised it was a transfer under the loan documents.

Before signing, know exactly which of your carve outs are loss and which are springing, and build the transfer and consent provisions into how the sponsorship entity is actually operated.

Which Structures Are Typically Which

These are market conventions, not rules. The structure on any specific deal is the lender's decision.

Conventionally non recourse, subject to carve outs - Conduit and CMBS debt on stabilized commercial property - Much life company lending on stabilized assets

Conventionally recourse - Bank balance sheet lending on commercial property, in full or in part - Construction lending, usually with a completion guaranty alongside - SBA lending, which requires personal guarantees from principals with meaningful ownership

Varies by lender, asset and sponsor - Bridge and short term repositioning debt, which sits across the whole range

A useful mental model: the further an asset is from producing stable, provable income, the more likely a lender is to want a guarantor standing behind it. Stabilized income supports non recourse. A hole in the ground generally does not.

The Trade: What Non Recourse Costs

Non recourse is not a free upgrade. A lender that gives up its second source of repayment gets paid for that somewhere else, and the compensation usually shows up as some combination of:

- Lower leverage. Less proceeds against the same asset. - Tighter coverage. A higher required debt service coverage ratio and a higher debt yield floor. - Structural requirements. Single purpose entity, independent director or springing member provisions, non consolidation opinions, cash management or lockbox arrangements. - Less flexibility later. Securitised non recourse debt in particular is materially harder to modify, prepay or restructure than a relationship loan held on a bank's own book. - Pricing. Sometimes, though this is the least reliable of the five.

A recourse structure can support a larger loan on the same asset precisely because the lender has somewhere else to go. For a sponsor with strong personal credit and a real track record, that trade is worth pricing out properly rather than reflexively insisting on non recourse.

Across what lenders in the PeerSense network have demonstrated, 65 percent is the realistic leverage anchor overall: commercial broadly 60 to 65 percent, residential 70 to 75 percent, and bridge lower than either. Above 75 percent is not a level we publish as an expectation. And leverage frequently is not the binding test at all. Coverage below 1.25x is the single most common reason a deal does not clear, and in current commercial real estate conditions debt yield binds more often than loan to value does.

PeerSense is a capital advisory. We position a deal and place it with lenders whose credit box already fits it. We do not lend, fund, price or approve, and nothing here is legal advice. Carve out guaranties should be reviewed with your own counsel before you sign one.