Non-Recourse Commercial Loan
A commercial loan without residential property as security
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If you're in the market for a commercial loan but aren't willing to offer your home as security, a non-recourse commercial loan could be the best solution. Here's what you need to know.
A non-recourse commercial loan is designed for high-worth commercial investments with loan amounts in the millions. This type of loan allows corporate borrowers to access funds for business purposes but without becoming personally liable should the loan default. Borrowers need to be in a strong financial position to apply for non-recourse lending, and lenders will charge an interest rate premium to mitigate their risk of lending without the usual security requirements.
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Non-recourse lending isn't as common in Australia as it is in other countries. All residential loans in Australia are recourse loans, but since commercial lending is not subject to the same regulations as residential lending, commercial lenders have the freedom to offer non-recourse loans on a case-by-case basis. The lenders that do offer this type of loan in Australia tend to be specialty commercial lenders solely concerned with high-end borrowers.
Understanding non-recourse commercial loans
How does the loan work?
In the case of a standard commercial loan, should the loan default, the lender will liquidate the commercial asset first in order to recoup their funds. If the sale of the commercial asset does not bring in enough funds to settle the loan debt, the lender will then look to the borrower's personal assets – typically the residential property offered as security for the loan – and will sell these in order to settle the debt.
However, with a non-recourse commercial loan, the lender has no further recourse against the borrower to settle any unpaid amounts of the loan default. If the sale of the commercial asset is not enough to pay down the debt, the lender cannot access any of the borrower's other assets to provide further funds. In practical terms, this means that the borrower's home and other assets are not at risk if they cannot make the payments on their non-recourse commercial loan.
In order to justify this risk, lenders will only offer a non-recourse loan to borrowers with sufficient business cash flow to easily cover the ongoing loan repayments. As a minimum, borrowers will need to demonstrate cash flow of at least five times the ongoing principal and interest repayments, known as the debt service coverage ratio (DSCR).
With the commercial lending industry being largely unregulated, lenders can impose the terms they see fit, including commercial interest rates many points higher than the standard interest rate, in order to mitigate their risk. For example, a lender could also take another business asset as security, such as the value of the business's inventory, or could even impose a limit on directors’ drawings during the life of the loan, effectively reducing the borrower's personal income. It is essential that borrowers obtain independent legal and financial advice before entering into a non-recourse commercial loan agreement.
Advantages and disadvantages of a non-recourse loan
The advantages of a non-recourse loan include:
- The borrower cannot be held personally responsible should the loan default.
- The borrower's personal assets such as their home and other residential properties are not in jeopardy.
- Non-recourse lending provides a simplified lending method for companies with multiple directors.
The disadvantages of a non-recourse commercial loan include:
- Non-recourse lending is typically only available to loans of at least $5 million.
- Interest rates will be higher than standard commercial interest rates.
- As a non-regulated industry, commercial lenders can impose various conditions to mitigate their risks.
- Borrowers are unlikely to be able to borrow more than 50% of the value of the commercial property.
Typical loan terms for a non-recourse loan
Non-recourse commercial loans are typically only offered to high-stakes lenders, with loan amounts between $5 million and $15 million. Loan amounts of higher than $15 million are considered institutional lending and require extensive input from a credit assessor before a loan offer is made.
With only the commercial property as security for the loan, loan amounts are unlikely to be more than 50% of the value of the commercial property.
In general, non-recourse commercial loans only apply to loan applications to purchase standard commercial property such as retail premises, office buildings, warehouses, residential developments or factories. Purpose-built or highly specialised commercial properties like childcare centres or aged care facilities are generally not suitable for non-recourse lending. This is because the value of specialised properties can fluctuate and, unlike standard commercial properties, they cannot readily be converted to other uses for a quick sale.
Alternatives to consider
Business loan with guarantor
An alternative to a non-recourse loan is to consider a business loan with guarantor. In this arrangement, the guarantor will offer their own residential property as security for the loan, attracting an interest rate discount and allowing the borrower to access up to 80% of the equity in the property.
The guarantor typically needs to be someone in a close relationship with the borrower or with a legitimate interest in the business. Having a guarantor for a business loan can be a viable way for a lender to access business funds but without offering their own residential property as security for the loan.
Secured business loan
The obvious alternative to a non-recourse commercial loan is a secured business loan. By putting your own residential property as security for the loan, you can access significantly discounted interest rates and can potentially borrow up to 100% of the value of the property.
Of course, a secured business loan brings with it the inherent risk that you could lose your home or other residential property if you are unable to meet your commercial loan repayments. As with any type of lending, it is imperative to compare your options to ensure that you choose the commercial loan that best suits your individual circumstances.
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