Can a mortgage on rental be non-recourse?

[origun]

Taxpayer took out a mortgage on a residence intended to be a second home in a non-recourse state (Arizona). Loan was never re-financed, no home equity loan or a second mortgage was ever taken out. A while later, she rented property for a while, and then property was "given back to the bank." If the original loan was non-recourse, does it continue to be that type even after the use of the property was changed from personal to business? There was no change in the terms of the original loan when it became a rental. She hasn't received a 1099-C up to this time and believes the property hasn't yet been sold by the bank.

I have been under the impression that the nature of the original loan was what matters (recourse or non-recourse) but I had a conversation with a colleague with real estate experience who said that once a property changes from personal use to business (i.e., rental) that a non-recourse loan becomes recourse? Any thoughts or experience with this? (Client hasn't yet received 1099-A and/or C--just want to prepare her if she is going to have considerable COD income.)

[Gretel]

I cannot image a loan changing it's nature by itself but a call to the bank will clarify that.

One of my clients owns several rentals, some of them have recourse loans attached and some non-recourse. At least this proves the statement wrong of a loan automatically being recourse if it is a rental. Then again, it just might be a misunderstanding.

[Gary2]

That's a legal question that could probably vary from state to state, and could even be dependent on the way the loan is written.

As an extreme example, I would expect that in all 50 states, it would be legal for a private party to issue a totally non-recourse loan for whatever reason.

[Davc]

There's also a possibility that the original contract contains a clause making the loan recourse if it ceases to be a primary residence and putting the burden of notification on the borrower.

[origun]

Thanks for all your input!

Taxpayer does have her loan documents and I did look over a while back. I don't recall anything in there to suggest a change if use of property changed but will look over more carefully. The legalese in these documents is so difficult to wade through!

I did find out via a web search that AZ has a rule that original loans on "residences" with property less than 2.5 acres are non-recourse and my client's home does satisfy that criterion.