If you’re buying a property, mortgage lender companies will usually try to offer you two types of loan, known as “recourse loan” and “non recourse loan” – but what is the difference? And what collateral is required?
In a nutshell, non recourse loans will use a borrower’s property as collateral and, if the borrower defaults on a certain amount of payments, the lender will be able to seize their property – but nothing else.
In contrast, if a borrower defaults on a recourse loan, the lender will be able to seize their property and go after any other assets, accounts or money held in the borrower’s name in an attempt to cover the full value of the debt.
Both financing options have their various pros and cons, which we’re going to explore in this latest blog, to help you understand all factors and make better real estate financing decisions.
What Happens When You Default on a Loan?
Regardless of the type of loan or financing buyers turn to when purchasing real estate or a new home, borrowers have certain obligations from the point of view of their mortgage lender.
First and foremost, borrowers must repay their debts in line with their agreed monthly repayment plan, plus interest. If the borrower fails to keep up their repayments, there will be consequences with both recourse and non recourse loans.
- If you take out a non recourse loan on a home and default on your payments, you could risk foreclosure. This is because your home is used as collateral and the lender has every right to seize it if you fail to keep up with the payments. If the value of your real estate has decreased, this will be the lender’s loss.
- With a recourse loan, however, the lender could also pursue any money or other assets you may hold outside of the real estate held as collateral. This makes recourse loans that little bit riskier for borrowers.
What Is a Non Recourse Loan?
Example: The standard mortgage loan products offered by most lenders are usually non recourse loans. In each case, clients will agree for the lender to use their home itself as loan collateral – which means that borrowers could face foreclosure and the loss of their home if the borrower defaults.
During foreclosure, the lender will seize and sell on the real estate to satisfy the borrower’s debts. However, the lender must accept any remaining balance as its own loss if the real estate has fallen in value since the loan was originally granted.
What Is a Recourse Loan?
Example: Car loans or automobile loans are almost always recourse loans. In the case a borrower defaults on a car loan or other type of recourse loan, this means the lender is within its rights, terms and conditions to repossess the vehicle and sell it on in attempt to cover the loan balance.
However, if the value of the car no longer covers the full amount of money owed, the bank or lender can go after other assets, like property, savings and bank accounts, to try and recoup the balance deficiency.
Recourse Loan Vs Non Recourse Loan – Which Is Better?
Naturally, a non recourse loan places less risk on the individual who is taking on the debt, as only the real estate used as collateral can be seized in a worst-case scenario – and no more.
For this reason, non recourse loans are often a popular choice in the recourse vs non recourse loan debate. That said, buyers must satisfy some strict approval requirements and might have to pay a high interest rate when compared to recourse loans.
A recourse loan offers a greater comfort level for the lender, as they have more rights and broader means of recouping their debts if the borrower defaults on the loan. However, there are significant benefits for borrowers too.
For example, lenders offering recourse loans are usually more lenient toward borrowers with a low credit score. They also tend to offer better interest rates and terms, due to the shift in obligations. Let’s take a closer look at the factors lenders will consider in each case:
You’re more likely to get a recourse loan if you:
- Have a weak credit score or high debt-to-income ratio
- Want a lower interest rate
- Are taking out an auto loan or credit card
Non recourse loans may be an option if you:
- Can satisfy more stringent approval requirements
- Are willing to pay a higher interest rate
- Are taking out a home mortgage in a non recourse state
Compare the Best Loans and Interest Rates With Instant Loan Today
If you’re buying a new home or investing in real estate, it’s important to find and secure a loan that offers great interest rates and excellent terms, but also loan collateral requirements that match your comfort level.
In order to find a loan that meets your individual needs and state of affairs, it’s always wise to compare the market to find an appropriate loan package that makes a real difference.
We can find you the perfect loan offering the right loan amount, interest rates and loan terms regardless of your credit history and individual circumstances. Do a loan search for yourself and see the difference today.