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Recourse Loan: Definition and Example

Recourse Loan: Definition and Example
Lauren Ward
Lauren WardUpdated December 14, 2022
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Editor’s note: Lantern by SoFi seeks to provide content that is objective, independent and accurate. Writers are separate from our business operation and do not receive direct compensation from advertisers or partners. Read more about our Editorial Guidelines and How We Make Money.
A recourse loan is a type of secured loan that requires collateral from a borrower. However, with these loans, if a borrower defaults, lenders can seize not just the collateral, but also other assets if the debt owed is greater than the value of the collateral. Recourse loans may come with lower interest rates and easier approval in some cases. But they do pose risks for many borrowers. Before taking out any loan, it’s important to understand the terms.Here’s what you need to know about recourse loans, their benefits and drawbacks, and how they work. 

Recourse Loan Meaning 

What is a recourse loan? By definition, a recourse loan is a type of loan in which a lender can recover their money if a borrower defaults and the collateral used to back the loan is not enough to cover it. The lender does this by taking other assets the borrower owns.A recourse loan is a secured loan. The difference between secured vs. unsecured loans is that unsecured loans do not require collateral and secured loans do. The collateral, which might be something like a house or car, secures the loan, and the lender can seize it if a borrower fails to pay the loan. Recourse loans go one step further, however. Because the collateral used to secure the loan may depreciate in value, the lender and the borrower agree that the lender may seize other assets from the borrower, should the borrower default.There are also nonrecourse loans, which are also secured loans. The difference between recourse vs. non-recourse loans is that with nonrecourse loans, a lender can take the collateral but nothing else if a borrower defaults. With a recourse loan, the lender can seize other assets along with the collateral.Recourse loans are the opposite of signature loans, which don’t require any collateral for loan approval. Typically, you need good credit to be approved for signature loans, and they may be difficult to qualify for. The interest rates on signature loans tend to be higher since there is no collateral involved.

Advantages of Recourse Loans

Recourse loans have some advantages. These include:

Easier Approval 

If the borrower has poor credit, a high debt-income ratio DTI—which is a comparison of your monthly debt to your gross monthly income—or both, they may find it easier to get approved for a recourse loan. A recourse loan reduces a lender’s risk, which typically means the approval requirements for the loan are less stringent.

Potentially Lower Interest Rates 

Because a recourse loan is generally less risky to the lender, the interest rate for this type of loan may be more favorable than the interest rate for other loans. 

Disadvantages of Recourse Loans

Recourse loans come with some significant drawbacks, however, such as these:

Risk Losing Assets 

Recourse loans can be used to seize assets in addition to the collateral for the loan. When you agree to a recourse loan, any of your valuable assets may be taken by a lender, including money sitting in your savings account. 

Wage Garnishment

If no assets are available to seize, lenders can ask a court to garnish your wages in order to recoup their losses. When this happens, a percentage of each of your paychecks is sent to the lender. 

Types of Recourse Loans

There are different types of recourse loans. Some of the most common types include: 

Credit Cards

Credit cards are an example of recourse loans. If you stop making payments on your credit card debt, you could eventually be sued by the lender for any unpaid credit card balance. If this happens, a court may grant the lender the authority to garnish your wages or seize other assets to settle the remaining debt.   

Auto Loans 

Auto loans are commonly recourse loans because a car purchased with an auto loan depreciates faster than the loan can be paid off. As a result, auto loan lenders often require a recourse contingency in the loan contract that allows them to seize other assets in the event the borrower is unable to make their monthly car payments. 

Personal Loans

Personal loans may be recourse or non-recourse loans. Typically, it depends on the lender. Some lenders may offer mainly recourse loans because they are less risky. A recourse loan will typically have a lower APR (annual percentage rate). And a non-recourse personal loan will generally have a higher interest rate. By exploring personal loan interest rates you may be able to find the best option for your needs.For many borrowers, the fact that they are flexible and can be used for almost any purpose is one of the reasons to apply for personal loans Recommended: 5 Typical Personal Loan Requirements

Recourse Loan Example

To understand how a recourse loan works and the recourse loan meaning, consider this example:A borrower purchases a car for $25,000 and makes a $5,000 down payment on a $20,000 loan with a loan term of five years. After two years, the borrower stops making payments but still owes $12,534.  A car’s value is estimated to decrease up to 69% from its original value after two years. Plus, this borrower had a couple of fender benders, which dropped the car’s value to $10,000. Even when the lender seizes the car, they are still short $2,534. To recoup the loss, the lender obtains a deficiency judgment from a court which allows them to garnish the borrower’s wages until the remaining $2,534 is paid. They are able to do this because the loan was a recourse loan.

Should You Get a Recourse Loan?

Recourse loans have advantages and disadvantages. They may come with lower interest rates, and they could help borrowers with high DTIs and poor credit get approved for loans. If you are confident you can comfortably make the monthly payments, a recourse loan might be something to consider. However, while they are certainly better options than turning to predatory lenders or loan sharks for funding, recourse loans do put your assets at risk if you default on the loan. Be sure to consider the pros and cons carefully to make the best decision for your situation.

The Takeaway

Recourse loans require an asset as collateral to secure the loan. In addition, with a recourse loan, the lender can seize the collateral plus other assets to satisfy the outstanding debt if the borrower defaults. Before signing any loan contract, make sure you read and understand the terms you’re agreeing to.  Personal loans may be recourse or non-recourse loans. If you are interested in exploring the personal loan options available to you, Lantern by SoFi can help. By filling out one simple form, you’ll get offers from multiple lenders in our marketplace. That way, you can easily compare lenders, loan terms, and monthly payments to find a loan that might be the right fit for you. Compare personal loan options with Lantern.

Frequently Asked Questions

What is a recourse loan?
What is an example of a recourse personal loan?
Are recourse personal loans bad?

About the Author

Lauren Ward

Lauren Ward

Lauren Ward is a personal finance expert with nearly a decade of experience writing online content. Her work has appeared on websites such as MSN, Time, and Bankrate. Lauren writes on a variety of personal finance topics for SoFi, including credit and banking.
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