Non-Recourse Debt - Why do you need net worth?

Question

I’ve been researching Fannie Mae smaller apartment loans. I haven’t been able to figure this out: if the debt is non-recourse, why then does the total net worth of the borrowers have to exceed the loan amount? Is there ANY collateral for the lender besides the property itself?

Can anyone point me to related references? I’ve read about a dozen apartment investing books and listened to hundreds of podcasts. I’m using a local portfolio lender for my apartments currently as the loan amounts aren’t large enough for agency debt.

Thank you for your help! Love this community.

Greg Dickerson · Answer

@Charlie Cameron Not all loans are non-recourse and not all borrowers are eligible.

Non-recourse loans are offer to qualified borrowers only based on experience, net worth and the asset and loan amount. The lender wants to make sure you will not default hence the net worth requirement.

Non-recourse means taking back the property itself is the only recourse the lender has in the event of a default, however, they will have a "bad boy clause" or "guarantee" meaning that if you do something fraudulent, illegal, or certain defined bad acts they will come after you personally for liabilities and deficiencies in the event of a default.

Mike Dymski · Answer

The loan requirements are unrelated to recourse provisions. Lenders want to see experience and a track record of financial success and their requirements help them qualify the borrower. Even with a recourse loan, it's difficult and extremely expensive for lenders to collect on defaulted loans. They are not looking for collateral...they are looking for financial performance.

Greg Scully · Answer

@Charlie Cameron - Typically a PFS, REO schedule and tax returns will satisfy lenders, although follow up documentation may be needed for specific questions. I've never been asked for CPA or attorney verified documentation.

Nick Schoch · Answer

As others have said, lenders want to see sufficient sponsor/investor capacity to support the asset or at least not burden the asset with other problems in their world. For example, if a sponsor has cash flow issues elsewhere in their portfolio or other indications of limited capacity, this increases the probability of default on the subject loan. So even though the lender knows the sponsor isn't obligated to come out of pocket to cover any deficiency or otherwise support the subject asset, the sponsor's ability to do so reduces the probability of default on the subject loan.

Regarding verification of capacity, most lenders will ask for a personal financial statement, liquidity statements (bank/brokerage statements), a schedule of real estate owned, and tax returns.

Spencer Gray · Answer

At the end of the day lenders want to make sure there is someone in the deal with deep enough pockets who can theoretically make things right if needed.

Charlie Cameron · Answer

@Greg Dickerson @Mike Dymski

Thank you both for the helpful responses! That makes much more sense.

Follow up question: verification of net worth. Would a real estate attorney perform that?

Charlie Cameron · Answer

Thank you all for the helpful responses!

Non-Recourse Debt - Why do you need net worth?

Non-Recourse Debt - Why do you need net worth?

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