Tag Archives: extending credit

The 2 Principles to Extending Credit

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There are 2 basic principles critical to the extension of credit.

Ability vs Intent, C2C Resources1. The ability to repay a debt

2. The intent to repay a debt

If you can verify the intent of your potential customer and his or her ability to repay the debt, the decision to extend credit or not should be relatively easy. Your credit investigation should quantify ability and intent.

How do you verify the applicant’s ability to repay a debt?

Start with your applicant’s income and assets. Consider verifying their income by having them provide copies of paychecks and bank statements. When dealing in a corporate credit environment, financial statements should be enough to provide this information.

How do you verify the applicant’s intent to repay debt?

Past behavior is an excellent indicator of future behavior. A consumer credit report is a great starting point. There are many reporting agencies to choose from. Three of the larger, reputable agencies are Equifax, Experian, and TransUnion. In the corporate environment, the best way is to contact bank and trade references.

When obtaining a credit application, the applicant should provide the following information:

  • Applicant Company Legal Entity Name (including any d/b/a’s)
  • Corporate Address
  • Telephone
  • Fax
  • Website
  • EIN (Employer ID Number or Federal Tax Identification Number)
  • Principals’ Legal Names (and SSN / DOB’s / Addresses if requiring a personal guarantee)
  • Banking References including banker’s name and contact info
  • Trade References (at least 3)
  • CPA contact information
  • Amount of credit applied for
  • Requested Terms: Any special terms requiring a “meeting of the minds” (i.e. finance charges, late fees, personal guarantee, authorization to pull credit on officers, etc.)

Once the credit application is submitted, it’s imperative that you verify the information. On any point, if you find a discrepancy, discuss it with your potential customer.

  • CONFIRM CORPORATE IDENTITY: For most states, the Secretary of State website provides a way for you to verify the corporate status online. Print the information and attach it to the application to keep in your customer’s file.
  • PHONE NUMBER: Dial it. Did they answer with the name given or another name?
  • VISIT THE WEBSITE: Print the home page and keep it in your credit file. Look for any information that may help you with your decision like press releases, news, info on suppliers/vendors, etc.
  • CONFIRM EIN: There are online sites to facilitate EIN verification.
  • CONFIRM PRINCIPALS: In the even that you require a personal guarantee, you may want to verify the validity of the individual’s address. If the potential risk is substantial, pull credit reports on the guarantors for further insight into their intent and ability to pay their personal debts. This could become a personal debt if the company defaults.
  • OBTAIN BANKING REFERENCES: You may contact their bank and request a reference, however, the bank may decline to give you any information. If so, ask your applicant to provide a recent bank statement.
  • OBTAIN TRADE REFERENCES: Naturally, people provide references they know will give a good one. However, if you look on your applicant’s website, you may find other suppliers/vendors that might give you a more objective reference.
  • OBTAIN CPA INFORMATION: It’s not necessary to contact the CPA during the processing period, but should the applicant go into default, the CPA may be of value.

Make sure you document all the information you gather during the credit investigation. Keep all the information in your customer’s file. You will need it in the event that they default.

Upon completion, determine the amount of credit you are comfortable extending to your new client. Any discrepancies need to be discussed and if you feel the explanations are insufficient, you may wish to reconsider extending terms to the applicant. Any applicant hesitant about providing information should be a cause for concern.

The credit application is an invaluable tool should the customer default. Keep detailed records together with the credit app in your customer’s file. It’s and excellent idea to scan the documentation onto your hard drive, as well.

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4 Steps to Successfully Extending Credit

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As a business owner, you know how your Accounts Receivable impacts your bottom line.

Not every industry is the same but traditional estimates suggest that for every dollar you have as a “non-performing” asset, you’d need to bring in three dollars in new sales to offset its effect. Given that economic times are tough right now, it’s possible that your sales efforts may not be generating the results they used to. Between that and a tight credit market you may find it tough to expand your business or even stay afloat.

It’s often said, “A loan well made is 90% collected”. Success in A/R starts with a solid credit extension policy. Follow these 4 steps as a foundation:

1. REQUIRE a Credit Application: As you know, credit applications are used to help determine the credit worthiness of the applicant.

2. VERIFY through processing: For a Credit App to be useful, the information must be verified. Through processing you’ll want to confirm the corporate identity, contact vendors and request references. You may even consider pulling a credit report on the principals of the company. If you can’t verify any point on the credit app, discuss it with your potential customer. If he’s not willing to wait while you process the application, this may be a red flag.

3. EVALUATE the credit: If the results of processing lead you to extend credit, we advise keeping the terms short initially. As your client builds a payment history with you, you can lengthen the terms. If you are feeling uncertain of extending terms to your potential customer but you still want to do business, consider requesting a ‘personal guarantee’. It will obligate the individual as well as the company for repayment of the debt. If your potential customer is unwilling to personally guarantee the account in exchange for credit, you may want to reconsider doing business with them.

4. REQUIRE down payments: This is a great way to secure yourself when extending terms. If you can get enough money up front to cover any costs or capital outlay, you will minimize the damage done should the account go bad. Determine what your cost is and then try to secure at least that much as a down payment. This way, your customer has vested interest and is more likely to follow through with payment-in-full.

Follow these steps for a solid credit extension policy.