what is recourse 
a recourse is a legal agreement that gives the lender the right to pledged collateral if the borrower is unable to satisfy the debt obligation recourse refers to the lender s legal right to collect recourse lending provides protection to lenders as they are assured of having some repayment either in cash or liquid assets companies that use recourse debt have a lower cost of capital as there is less underlying risk in lending to that firm understanding recourserecourse provides the legal means for a lender to seize a borrower s assets if the borrower defaults on a debt if the debt is full recourse the borrower is liable for the full amount of the debt even to the extent it exceeds the value of the collateralized asset recourse debt allows the lender to take other assets from the borrower besides the collateral in order to repay the debt in most cases the lender may obtain a deficiency judgment to seize unpledged assets levy bank accounts or garnish wages the lender may also go after other sources of income from the borrower such as commissions royalties or investment income recourse vs non recourserecourse loans are distinct from non recourse loans which limit the lender to claiming only the specific asset pledged as collateral if a borrower defaults on a non recourse loan and the value of the collateral does not cover the amount the borrower owes the lender cannot attempt to recover the balance by seizing the borrower s other assets the lender only has a legal right to the pledged collateral because of this distinction recourse debt favors the lender while non recourse debt favors the borrower borrowers who have non recourse loans generally must pay higher interest rates than recourse loans in order to compensate the lender for undertaking the additional risk recourse debt is the more common form of debt because it is less risky for lenders non recourse debt is usually limited to longer term loans placed on stabilized and performing assets such as commercial real estate tax impact of recourse on borrowersrecourse debt has two tax implications for borrowers that translate into recognizing taxable ordinary income and reporting a loss or gain when filing their taxes the borrower must report as ordinary income any part of a debt that is forgiven by the lender for example if a lender forecloses on a house to recover a 150 000 debt and sells it for 125 000 the borrower still owes 25 000 if the lender forgives the 25 000 the borrower must report this amount as ordinary income for tax purposes if the debt is non recourse the forgiveness of the loan does not result in taxable cancellation of debt income since the terms of the loan do not give the lender any rights to pursue the owner personally in case of default regardless of whether a debt is forgiven the borrower must report a loss or gain based on the difference between the original loan amount and the amount realized in the sale of the asset in the above example the 25 000 must be reported as a loss losses incurred through the sale of deficient assets are not tax deductible special considerationsmost loans are issued with recourse language included in the loan document the language specifies the recourse actions the lender may take along with any limitations generally whether a loan is a recourse or non recourse depends on the state where the loan originated most states provide for recourse for mortgage lenders but it may be restricted in some way for example in some states the deficiency judgment the lender can obtain against the borrower cannot exceed the fair market value fmv of the property common types of recourse loans are credit cards personal loans and auto loans for example consider a home that has a mortgage balance of 250 000 and a fair market value of 200 000 if the lender sells the home at auction for 150 000 it can only recover a 50 000 deficiency judgment against the borrower which is the difference between the fmv and the amount the home sold for at auction in some states lenders are prohibited from obtaining deficiency judgments example of recoursecompany abc is a delivery company that needs to replace its fleet of outdated trucks it needs to buy five new trucks that cost a total of 250 000 company abc only has 50 000 in cash to spend on the trucks so it borrows 200 000 from bank xyz the loan is a recourse loan and the pledged collateral is the trucks after three years company abc s business has been performing poorly and it can no longer make payments on its loan to bank xyz it still owes 125 000 on its loan as per the terms of the recourse loan bank xyz ceases the trucks that were pledged as collateral however due to the depreciation of the trucks they are only worth 75 000 meaning there is a shortfall of 50 000 in covering the outstanding amount on the loan because the value of the collateral does not cover the outstanding amount on the loan and because the loan is a recourse loan bank xyz seeks to obtain other assets of company abc to cover the difference the two companies come to an agreement whereby company abc will hand over certain operating equipment with a total value of 50 000 to make whole on the loan questions answers