In simple terms, trade credit is an arrangement of buying goods on services without having to make instant cheque or cash payments. The seller extends credit for short-term to buyers for promoting their business. The customers don’t need to pay instantly for the goods or services they purchased but can do it at a later date.
Trade credit terms
Trade credit terms are negotiations between a seller and a buyer. Common credit terms appear like this – 3/10, net 30
The first part means a 3% discount is allowed if the buyer pays the amount within 10 days from merchandise receipt. The second part is the final due date that is 30 days’ time-limit is offered to pay in full. If the buyer fails to pay then there are penalties and late fees determined in the term negotiations.
There are even times when your customers can fail to pay. In such a situation, credit insurance covers your trade and protects your cashflow. You get paid even if your customers fail to pay. Niche Trade Credit has been working as trade credit insurance brokers for more than three decades with all kinds of businesses across Australia. Set a consultation with them and get your business covered.
Trade credit is an arrangement that applies less cashflow pressure than what instant cash payment would make. Trade credit helps in decreasing and managing a company’s capital needs. On the other side, you also need to consider customers requesting for advantageous trade credit terms. This can lessen your benefit got from negotiations with your dealers.
For example, a trade credit term of 60 days was agreed with your dealer. Your customer’s trade credit term requested for 40 days. The net benefit is 20 days. It is a net amount, which can impact the working capital of your business and there will be a need for extra funding.
What are trade credit features?
- It is not a legally acknowledged debt process.
- It is an understanding and arrangement between seller and buyer.
- It’s an impulsive financing source.
- It’s a costly finance sourcing with a risk of failed payment within the discounted period.
The credit term differs from one sector to another. For example, online businesses that allow cash on delivery have short credit terms, whereas in long term projects the time and payment are scheduled on completion of specific tasks or levels.
Trade credit advantages
- Easy and automatic short-term finance source.
- Capital requirements get reduced.
- As long as you fulfill the terms, it is easy to maintain an agreement.
- Business can focus on their core activities
- Any formal agreement or negotiation is not needed.
- Late payment policy offers protection.
- The potential loss of discount on early payment.
- It provides cashflow advantage instead of extra funds.
- Your customers can request specific credit terms, which can reduce the cashflow advantage.
- Failure in meeting the terms will spoil your relationship with the supplier, so it is wise to discuss the possibility of deviation from the agreement in advance.
- No guarantee that the customer will pay on-time.
- Online retailers cannot use trade credit method.
- Trade credit is for companies with a good repayment record.
- A new business can find it hard to allow trade credit.
Pay early or on time is a great option for businesses that receive trade credit!