Table of Contents

1. Executive Summary

2. Introduction to Private Activity Bonds

3. Recourse vs. Non-Recourse Overview

4. Why Recourse Emerges in PAB Deals

5. Mechanisms and Structures of Recourse

6. Strategies for Reducing or Eliminating Recourse

○ 6.1 Performance or Milestone-Based Sunset

○ 6.2 Bond Insurance / Credit Enhancement

○ 6.3 Subordinate Guarantees / Surety Instruments

1. Executive Summary

This paper provides a comprehensive overview of how liability (particularly recourse exposure)

functions in private activity bond (PAB) financing for affordable or mixed-use housing

● The scope of recourse, often requiring personal or corporate guarantees from sponsors,

● Techniques to reduce or eliminate recourse after certain milestones—sometimes called

● Commercial income (such as $120k from retail rent) and how it can enhance coverage,

● Legal frameworks, underwriting concerns, and recommended next steps for a public

For housing, PABs are frequently employed in conjunction with Low-Income Housing Tax Credits

(LIHTC) or other layered financing. In many cases, PABs allow the project to benefit from

tax-exempt rates, reducing interest costs. The end purchaser of these bonds (often institutional

investors) still desires assurance that the project can service the debt, especially through

construction and lease-up.

3. Recourse vs. Non-Recourse Overview

In real estate (particularly multifamily and affordable housing), there is a strong desire for

● Non-Recourse: The lender (or bond purchaser) looks solely to the project’s assets (land,

Recourse is typically risk-based: if the sponsor is strong, or the project is particularly stable, less

recourse is required. If the sponsor is less established, or the project has unusual risk (e.g., new

construction, large commercial components, uncertain rent streams), recourse is more common.

4. Why Recourse Emerges in PAB Deals

One might ask: “Aren’t tax-exempt bonds typically non-recourse, especially if the transaction is

structured under a state housing finance agency?” The reality is that:

1. Construction Risk:

2. Lease-Up Risk:

4. Hybrid Financing:

5. Mechanisms and Structures of Recourse

Below are the typical forms of recourse or sponsor liability in a private activity bond for housing:

1. Completion Guaranty:

3. Full Recourse:

4. Carve-Out Guaranties:

recourse to “sunset” after achieving certain milestones. Below are common strategies:

Performance triggers are some of the most common. For example:

● Loan converts to non-recourse once the project reaches 90% occupancy for 90

● Personal guarantees reduce from 100% to 25% once the certificate of occupancy is

Bond counsel or bond purchasers accept these sunset triggers if they believe the project risk

abates significantly post-completion.

Similar to how HUD 221(d)(4) insurance can eliminate sponsor recourse, there exist private

insurance or surety products that can guarantee bond principal and interest. The sponsor

typically pays an annual premium (like a MIP), and in return, the insurer stands behind the bond.

Under those circumstances:

● The sponsor’s direct recourse is replaced or greatly limited by the insurer’s coverage.

● Letter of credit from a bank covering cost overruns or short-term operating deficits, with

This approach can ring-fence the sponsor’s liability to a smaller, more defined set of exposures

(like overruns or short-term deficits), rather than a blanket guarantee of the entire bond.

Many times, private activity bonds are used for new construction or major rehab. Once the

building is complete and occupancy is stable (i.e., 90–95% with proven DSCR), the sponsor can

refinance into a fully non-recourse loan—like a HUD 223(f) or a Fannie/Freddie affordable

product. The recourse then drops away once the new permanent loan closes.

Alternatively, the sponsor might sell or bring in new equity after lease-up. That exit or recap event

HUD. This structure can be layered with tax-exempt bonds in some states.

7. Commercial Income and Its Role

Many affordable housing projects (especially those in urban or mixed-use zones) include a

1. Improves DSCR: By boosting total net operating income (NOI), you reduce the perceived

2. Enhances Underwriting: Lenders/bond purchasers see stronger coverage in early years,

However, bond purchasers may also treat commercial income more conservatively than

the commercial income is not truly stable, it can actually increase recourse demands, so care

should be taken to structure a lease that bond investors deem creditworthy.

8. Legal Considerations and Documentation

When negotiating PAB financing, the following documents are critical in shaping recourse:

3. Guaranty Agreements:

5. Intercreditor/Coordination Agreements:

possibly tax credit counsel if LIHTCs are involved. On the sponsor side, it is essential to map out

purchaser or trustee agrees.

funds (e.g., subordinate loans), plus ongoing oversight. While a PHA’s involvement can bolster the

project’s public mission, there are unique considerations:

○ If the PHA is viewed as a co-developer, bondholders might push for more comfort,

2. Ownership and Fee Splits:

cash flow and net proceeds at sale.

3. Exit Strategies:

with minimal private involvement.

Because of these sensitivities, PHAs want to ensure any recourse is limited to the private

developer or sponsor entity and does not inadvertently attach to the PHA’s broader assets or

particularly given their tax-exempt rates and adaptability to local financing needs. However,

sponsors, co-developers, and public partners must be aware that:

● Commercial income (e.g., $120k/yr from retail) can bolster DSCR, potentially reducing