In better economic times, asset-specific lending was seen as a relatively secure investment by both lenders and borrowers. Many commercial mortgage-backed security lenders offered “nonrecourse” loans – the lender agrees not to pursue recourse liability against the borrower or guarantor, and the borrower agrees to keep the encumbered property isolated and separate. In addition, nonrecourse loans also contain recourse carveout provisions – if the borrower violates these provisions, it triggers full-recourse liability for the losses resulting from the violation or, in some instances, full-recourse liability for the entire loan against the borrower and guarantor. Accordingly, interpretation of recourse carveout provisions is a matter of financial significance for both lenders and borrowers. Typically, recourse carveout provisions are thought to apply to affirmative bad acts such as fraudulently taking assets away from the encumbered property, transferring the property without the lender’s permission, etc. Many borrowers and guarantors believe if they avoid such bad acts, their personal wealth is protected, even if their investment fails and they are forced to surrender the property. However, some lenders are challenging these assumptions regarding nonrecourse loans.

As more defaults under nonrecourse commercial mortgage-backed security loans occur due to challenging economic times, those defaults are resulting in closer attention from lenders to the language triggering the full-recourse status of such nonrecourse loans. In particular, a Michigan Court of Appeals decision is raising questions about how broadly courts interpret recourse carveout provisions. In Wells Fargo Bank, N.A. v. Cherryland Mall Limited Partnership, the court found that by passively becoming insolvent, the borrower triggered full-recourse liability under a “nonrecourse” loan.

In that case, Cherryland Mall obtained an $8,700,000 loan, and a principal of Cherryland Mall (the “Guarantor”) signed a personal guaranty of that loan. During the economic downturn, Cherryland Mall defaulted, and Wells Fargo, which had securitized the loan, foreclosed the mortgage against the property. After the bidding at the foreclosure sale, Wells Fargo was left with a deficiency of approximately $2,100,000. Wells Fargo filed a complaint against Cherryland Mall in an attempt to recover the deficiency. Wells Fargo subsequently added the Guarantor as a defendant and asserted that full-recourse liability had been triggered. Specifically, Wells Fargo explained that under the Note and other loan documents, Cherryland Mall was required to maintain single-purpose entity status (SPE status). Wells Fargo also asserted that, under the terms of the mortgage, Cherryland Mall becoming insolvent (actively or passively) constituted a failure to maintain SPE status and triggered full-recourse liability with respect to both Cherryland Mall and the Guarantor. Cherryland Mall and the Guarantor argued that the parties only intended for traditional recourse carveout provisions to trigger full-recourse liability. However, the Note clearly provided that Cherryland Mall was required to maintain SPE status. Further, although SPE status was not specifically defined in any of the documents, there was a provision in the mortgage with the heading “Single Purpose Entity/Separateness.” The Single Purpose Entity/Separateness provision included a term that said “Mortgagor is and will remain solvent and Mortgagor will pay its debts and liabilities … from its assets as the same shall become due.”

The Michigan Court of Appeals focused on the contractual language in the loan documents and held that passive insolvency was a failure to maintain SPE status, and failure to maintain SPE status triggered full-recourse liability. The Court took the position that this was merely a straightforward application of the contractual language in the loan documents. However, some commentators see the decision as illogical, given the common understanding of the essence of nonrecourse lending. The Michigan Court of Appeals admitted that its “interpretation seems incongruent with the perceived nature of a nonrecourse debt,” but ultimately found that “it is not the job of the Court to save litigants from their bad bargains or their failure to read and understand the terms of a contract.”

While it is commonly accepted that nonrecourse loans typically contain recourse carveouts, which if violated, trigger full-recourse liability, the Michigan Court of Appeals determined that because of the phrasing of the contract language, all the provisions relating to asset separation and isolation were potential triggers of full-recourse liability if violated. Under this interpretation, it seems that almost any default would have triggered full-recourse liability, leaving very little protection for the borrower and guarantor, despite the loan being called a nonrecourse loan.

Ultimately, however, Wells Fargo’s success in recovering its deficiency from Cherryland Mall and the Guarantor may be short-lived. On March 29, 2012, Governor Rick Snyder of Michigan signed legislation known as the Nonrecourse Mortgage Act (the “Act”). The Compiler’s Note to the Act specifically provides that “the legislature recognizes that the use of a post closing solvency covenant as a nonrecourse carveout, or an interpretation of any provision in a loan document that results in a determination that a post closing solvency covenant is a nonrecourse carveout, is inconsistent with this act and the nature of a nonrecourse loan; is an unfair and deceptive business practice and against public policy; and should not be enforced.” Additionally, the Act applied retroactively. Cherryland Mall and the Guarantor have asked the Michigan Supreme Court to vacate the Appellate Court’s decision on the basis of the Act. According to the Wall Street Journal, Wells Fargo plans to appeal the constitutionality of the legislation. If this legislation is upheld, it would prevent lenders in Michigan from using solvency as a trigger for full-recourse liability under a nonrecourse loan.

As more lenders consider making similar arguments regarding full-recourse triggers in an attempt to recover unpaid amounts under nonrecourse loans, both borrowers and lenders should look closely at the language of their nonrecourse loan documents. Borrowers and lenders should also be aware that states may be willing to take sides on this issue, as Michigan did, in order to protect nonrecourse borrowers, even if the actual language of the loan documents support a lender’s argument regarding the full-recourse liability trigger.


Ideally, loan documents should clearly state which requirements, if violated, will trigger full-recourse liability. If the contract language is broad, lenders may be able to recover amounts owed under nonrecourse loans, even if the borrower did not affirmatively engage in any bad acts.