Real Estate & Passthrough Finance Techniques Corner: "Bad Boy" Nonrecourse Carve-outs in Real Estate Loan Cause It to Be Recourse-or Do They?

Most secured nonrecourse loan documents contain "bad boy" nonrecourse carve-out provisions that impose personal liability on the borrower and a related "nonrecourse carve-out guarantor" if the borrower engages in certain prohibited acts, such as filing a voluntary bankruptcy petition. Such provisions are generally intended to protect the lender's ability to pursue the collateral securing the nonrecourse borrowing by incentivizing the borrower not to take actions that could interfere with that ability, such as filing a voluntary bankruptcy petition. It has been widely understood for years that such arrangements do not convert an otherwise nonrecourse borrowing into one that is recourse for Code Sec. 752 and Code Sec. 465 purposes. In the CCA, the IRS concluded that provisions in a nonrecourse real estate loan to a partnership that impose personal liability on a partner upon the occurrence of certain events caused the loan to be recourse to the partner for Code Sec. 752 and Code Sec. 465 purposes.