Recourse definition
/What is Recourse?
Recourse is the legal right of a lender to take over pledged collateral when a borrower is unable to pay back a loan. Recourse lending greatly reduces the risk for lenders, since it gives them a second source from which repayment can be made (besides the cash flows of the borrower). A full recourse lending arrangement leaves the borrower liable for the full amount of the underlying debt, which may be more than the amount that the lender obtains from sale of the associated collateral. In a non-recourse arrangement, the lender can only obtain satisfaction from the sale of the collateralized asset - the borrower is not liable for any additional amount. Larger borrowers are more likely to be able to force lenders to accept non-recourse lending arrangements.
Advantages of Recourse Lending
Recourse lending has advantages for both the lender and borrower, which are noted below.
Advantages for the Lender
Recourse lending presents one key advantage for a lender, which is the reduction of risk. Since lenders have access to a borrower's other assets if the collateral doesn't cover the debt, the risk of nonpayment is lower.
Advantages for the Borrower
Recourse lending has several advantages for a borrower, which are as follows:
Lower interest rate. A borrower can usually negotiate a lower interest rate in exchange for providing collateral to offset a borrowing arrangement.
Less restrictive lending criteria. Lenders are more likely to approve loans under recourse terms, even for borrowers with moderate creditworthiness.
Higher loan amounts. Lenders may offer larger loans because their risk exposure is mitigated by the additional recourse to the borrower’s assets.
Improved cash flow. A recourse arrangement can free up capital for other purposes, which is especially important for a growing business.
Faster loan processing. Lenders may expedite loan approval processes because of the added security of recourse provisions.
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Example of Recourse Lending
Altruist Corporation borrows $3 million from Currency Bank under a recourse lending arrangement, where the funds are to be used to acquire a production line. Two years later, Altruist defaults on the loan. Under the terms of the recourse arrangement, Currency Bank seizes the production line and sells it off for $800,000. Because this is a recourse loan, Currency can pursue Altruist for repayment of the remaining $2.2 million, since the collateral has now been used up.