"Bad boy" guaranties in commercial real estate loans have been commonplace for many years. However, neither guarantors, nor lenders expect guarantors to incur liability unless a "bad boy" act is actually committed. Two recent cases, however, subjected guarantors to liability previously non-existent, and have thrown the entire CMBS (Commercial Mortgage Backed Securities) industry and other commercial loan markets into upheaval. But in direct response to industry outcry against these decisions, and while these cases remain on appeal, the Michigan Senate quickly passed the "Non-Recourse Mortgage Loan Act" (effective March 29, 2012), which offers relief from these misguided decisions.
Typically, commercial real estate loans are non-recourse against the borrower, and the lender's recovery is limited to the mortgaged real estate and any other collateral pledged by the borrower. As additional security for the loans, lenders often require "bad boy" guaranties from one or more principals of the borrower. "Bad boy" guaranties generally cover borrower acts such as waste, conversion of insurance proceeds, misuse of security deposits, violating SPE* requirements and becoming insolvent. The unprecedented decline in the real estate market has thrown assets "under water", which had been a risk that lenders understood and accepted. Until these recent decisions, that scenario would not have subjected borrowers on non-recourse loans to liability in excess of the value of a property, or triggered liability under "bad boy" guaranties. That expectation, however, no longer is a given.
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