Bass, Berry & Sims attorney Richard Spore authored an article for Law360 examining issues with nonrecourse loans as the economic impact of COVID-19 on borrowers could cause real estate projects to go sideways. While nonrecourse loans eliminate or reduce risk for borrowers when problems arise, most of these loans have carveouts or exceptions that fall into two categories.

“The first category of carveouts includes matters that could impair the value of the collateral,” Richard said. “For this category, the guarantor’s liability is typically limited to the lender’s actual losses resulting from such impairment. Examples include a borrower’s waste of the collateral or failure to pay property taxes.”

“The second category of nonrecourse exceptions includes events that impair a lender’s ability to realize upon the collateral,” he added “Lenders will accept the concept of a nonrecourse loan only on the condition that they have unimpeded access to that collateral in the event of a default.”

Events that prevent a lender from exercising its remedies as to its collateral typically trigger full recourse. For example, a bankruptcy filing that stays the lenders ability to foreclose could trigger recourse. As a result, lenders will often want the ability to control the property’s cashflow as well as include cash  management provisions in the loan agreement.

“Nonrecourse borrowers must ultimately evaluate the likelihood that they will be able to retain a pandemic-distressed property versus having to give it back to the lender,” Richard outlined. “In the former instance, building operation and leasing concerns may trump legal issues, at least in certain cases. However, if the borrower anticipates having to give back the property to the lender, managing the situation to minimize any guarantor’s exposure for nonrecourse carveouts and full recourse events becomes critically important.”

The full article, “COVID-19 Could Complicate Distressed Nonrecourse Loans,” was published on July 7 by Law360 and is available online.