If a loan is considered full recourse, does a pledge of assets, bank accounts, etc even matter or is it covered as part of a full personal guaranty?
I have heard lenders talk about both in conjunction, but it would seem that a full recourse loan covers all, whereas a pledge of an asset means that only that asset can serve as additional collateral and lender can't go after non pledged assets to make itself whole. Is that correct?
Two different concepts.
a pledge is used to take ownership of the property faster through a UCC foreclosure vs. a judicial or non-judicial foreclosure. It essentially gives the lender a path to control/ownership of the asset in ~90 days vs. months (or years in the case of NYC).
a fully recourse loan means that the principal and usually the interest + a tail is fully guaranteed by the guarantor. If the loan is 100mm, but the lender only recovers 65mm after taking control of the property via the pledge, they can sue the guarantor for the 35mm remaining.
You want them both because generally you only sue a guarantor for losses. A lender doesn’t want to wait 4 years to go through a judicial foreclosure and then another year to sell the property and then another 2 years to get a judgement on recourse. That would be 7 years from an EOD. Instead, they use the pledge (90 days), spend a year selling the property, another 2 years on the lawsuit and have their money 3.75 years faster.
Thank you, so they can be used in conjunction by the lender as added protection. In general, do recourse lenders seek pledges as part of the loan, and what type of scenario would the pledge become more of a necessity? Is it leverage driven, i.e. the loan amount is stretching it for the senior lender so they request a pledge to create another layer of security?
Assuming that on a low LTV loan, i.e. 40% of purchase price, a pledge may be overkill? But assuming 75% LTV, in addition to full recourse, if a 50% leveraged commercial property were pledged, then in the event of default, lender becomes the equity on the pledged property, can liquidate, retire the debt, and whatever is left can go towards the deficiency?
The main reasons I know of are high ltv, long judicial foreclosure processes (NYC, Hawaii, Louisiana, etc), construction/large value-add projects. A lender doesn’t want to have an issue in the middle of a construction project and not get control quickly (like American Dream, or that tower with all of the graffiti in downtown LA).
It is also a more common requirement with debt funds vs life cos or banks. Which makes sense because they tend to do higher ltv/riskier deals.
Developers perspective here - we rarely do recourse but if you make me do recourse I sure as hell aint giving you a pledge as well. Pledges are typically required by mezz lenders as they need to be able to step in to the equity shoes to try and prevent a default on the senior in order to protect their prinicpal. As he mentioned since debt funds typically lay off an A or go higher leverage, then a pledge makes sense. If its a low lev bank loan and they asking for a pledge (LOL) that rate better be comically low.
Great answer. To add to it. I've worked on numerous deals that were full recourse and the lenders still lost money. Its very difficult to get a deficiency judgement and try to collect on that judgement. It happens but its not as common as one would think. Often times full recourse is really meant to scare borrowers into servicing the debt.
Genuinely curious...
If it is so difficult to get a deficiency judgement, what threat does that have on the guarantor? In other words, what specifically keeps them "honest" other than acting in good faith of their agreement.
You always want more than one way out.
Dumb question but when you say "pledge" is it the pledge of the real asset (property) or pledge of the equity interest in the ownership entity.
I would assume that a pledge of equity interest in the ownership entity never occurs in a 1st mortgage and is only reserved for mezz financing.
@teddythebear @CRE Credit Thank you for your insight.
So for my own edification ... is it correct to assume "a pledge of equity interest really only matters if you are a mezzanine lender in a non-judicial foreclosure state?"
Pledge of the equity interest.
It happens a lot more than you think in the high yield space. I have it on the majority of my loans at a levered high yield debt fund.
If you get asked for an equity pledge from a life co or a bank, most likely you are either a shitty borrower (real or perceived, are doing a stretch senior (70-75% LTV where a mezz would be too thin to place), or you have a complicated business plan (construction to perm, office to residential conversion, a major addition) that someone bought into but needs some additional belt and suspenders to get it done.
So as an example, let me know if I have this logic correct:
Borrower purchases property for $10M, loan request of $7.5M. Lender makes loan on full recourse basis (borrower shows $2M liquid and net worth of $20M via interests in other property LLCs).
Lender requires pledge of another property, borrower pledges their vacation home in Hawaii valued at $3M with no mortgage).
Property goes dark, no cash flow, vacant value is $5M lets say. Lender would be able to, in 90 days, claim the pledge on the home, sell for $3M, and then pursue a foreclosure for the $4.5M remaining? What would be the order of events from the lender's side? If borrower wanted to deed in lieu to avoid FC, lender could still take claim to pledged property early on and then take back property, sell it, and whatever is left, they get?
Usually a pledge is for the equity of the property being borrowed against only, not a 2nd piece of collateral.
So a borrower buys a property for $10mm and takes a $7.5mm loan. Stops paying and lenders starts foreclosure. Using the equity pledge, they can do a UCC foreclosure for the property in ~90 days and then sell. If they sell for $5mm and there is a guaranty, they can sue the Guarantor for the 2.5mm additional that was lent. If they win a judgement, they could look to enforce against the guarantors assets, which include the house in Hawaii.
If in your example you put up the house as an additional piece of collateral, then the loan is actually on both the house in Hawaii and the commercial property. I would have to asks lawyers what happens there because residential foreclosure rules are different than commercial. I think you can still UCC foreclosure, but I’m not quite sure.
If you do a deed in lieu, you usually try and get the lender to get you off the guaranties. So in the $10mm example that is worth $5mm. Borrower signs a deed in lieu and then asks to get off the personal guaranties. If Lender agrees, they get the property only and then have to decide how best to make money, which is usually to stabilize the property and then sell it back hopefully for the $10mm it was originally sold for. After expenses, maybe they make a little additional, but they have to do the work.
Another example. I foreclosed on a hotel last year. We know the guarantor (a fund) is defunct and has no money (we were 1 of 5 foreclosures in their portfolio in 2024) and we have not perused the guaranties. Instead, got the hotel back have invested money in capex and reducing expenses to raise the EBITDA. The plan is to sell the hotel by year end and our current appraisal price is about 20% over what our debt basis was. Yes, we spent a bunch of money to get there, but in the end, we will make a ~22% IRR. Hell of a lot more work for me to take it back and do the AM back to healthy, but also how I prove that I’m worth my salary. I’m going to have produced nearly 25mm in profit on the deal (measured from value the day of foreclosure to day of sale).
In the scenario described, is the lender legally obligated to obtain the maximum possible value? I ask because if the guarantor's assets are sufficient to cover the potential deficiency, would the lender be concerned whether the sale price is $4 million, $4.5 million, or $5 million?
Would the pledge also prevent additional indebtedness on the pledged properties without compensation the the main lender?
Recording some kind of pledge at the recorder’s office would protect the original lender by ensuring that they have priority on proceeds from any cash out financing or a sale of the pledged asset?
Thanks! I remembered seeing UCCs when I was looking through recorder records, but I was mainly focused on the deeds when I was looking for comps. The joys of North Dakota before they became a de facto disclosure state haha…
Full recourse basically means your personal net worth is on the hook regardless of the specific collateral.
I dealt with a nasty crossover like this a year ago and Delancey Street helped me navigate the specific liability language in the contract.
The pledge just gives the lender a faster path to those specific assets before they go after the rest of your estate.
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