Limited Recourse Debt
What Is Limited Recourse Debt?
Limited recourse debt is a debt where the creditor has limited claims on the loan in the event that the borrower defaults. Limited recourse debt in the middle between secured debt and unsecured debt in terms of the backing behind the loan. Limited recourse debt is likewise alluded to as partial recourse debt.
Figuring out Limited Recourse Debt
Recourse debt is debt that is secured by collateral from the borrower. On account of a default, the lender has the option to collect from the debtor's assets or seek after legal action. Recourse debt can either be full or limited. Full recourse debt permits the lender to seize and sell the debtor's assets, including assets that were acquired through the original loan, up to the full amount of the unpaid debt.
Limited recourse debt permits the lender to just collect on assets that are named in the original loan contractual agreement. In effect, this type of debt gives the lender a limited amount of recourse to the borrower's different assets if they default on the debt. Assuming the borrower defaults on their payments, the lender can exercise its rights concerning the collateral pledged. The lender's recovery is limited to just that collateral.
All in all, assuming the collateral is lacking to compensate for the unpaid portion of the loan amount, the lender has limited or no claim against some other assets. The borrower isn't personally at risk for the shortfall between the amount of unpaid debt and the amount realized on the collateral.
Limited recourse debt falls between an unsecured and secured loan, where claims on the debt sit below secured lenders or more both shareholders and unsecured lenders in terms of payout hierarchy. Because of its relative safety, limited recourse debt has interest rates that are ordinarily lower than unsecured debt.
Special Considerations
Limited recourse debt is secured up to a certain amount. For instance, a loan on which 40% of the principal is collateralized is a limited recourse loan. Frequently, a limited recourse debt contract is structured with the goal that the debt transitions to unsecured, or non-recourse debt pending the completion of a specific event. That event might be the completion of a project or the foundation of a specific revenue stream for which the debt was issued.
For instance, terms for limited recourse debt for a large project, for example, a power plant could mean that a creditor is guaranteed to receive 25% of the principal in any default up until completion of the power plant. Assuming the borrower defaults on any debt before the power plant is complete, the creditor has the privilege to claim ownership of any assets listed in the contractual agreement. When the power plant is complete, the loan can switch from a limited recourse loan to a non-recourse loan, where the creditor no longer has any claim on assets. This is so on the grounds that the risk of the project has essentially diminished now that the plant is in operation and generating cash flow that can be utilized to outfit the debt.
Features
- Limited recourse debt will be debt whereupon a creditor can claim certain yet not all assets of the borrower in the event that the borrower defaults.
- Limited recourse debt sits between secured debt and unsecured debt concerning the payout hierarchy.
- Limited recourse debt just considers a claim on assets determined in the loan contract even on the off chance that their value doesn't cover the unpaid portion of a loan.
- Full recourse debt permits creditors to claim any assets of the borrower to cover the unpaid portion of a loan fully.
