Written by Nick Driver
Posted on 01/10/2014

Your credit policy framework to avoid bad debt

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Your firm’s credit policy has a major impact on accounts receivable, as well as the cash flow it experiences. Building a credit policy that works is therefore a vital element of credit management and one that can help you avoid bad debt. Read on for your effective credit policy framework.


Establish what type of credit to offer

The type of credit you offer customers depends on the nature of the business. Retailers typically accept credit cards and cash, whereas a B2B arrangement will often involve invoicing and credit terms. For everyone’s convenience, it would make sense to follow industry norms, but any terms that are offered should suit your company primarily. The main considerations here will be how long the terms are, whether to charge interest for late payment and your approach to debt collection. 

Check for creditworthiness

Once you’ve established the type of credit your customers will have access to, the next step involves assessing their creditworthiness. Bad debt is unavoidable when offering credit, but thorough due diligence of both business customers and consumers can at least limit how often it’s encountered. 

Obtain a credit report for a strong overview of the customer’s financial history, and if the goods or service purchased is of a high value, consider asking for a credit reference from a firm who’s dealt with them previously. Credit reporting should be an ongoing process, but once you’ve established a business relationship with a buyer and have confidence in their abilities to pay, less time can be spent gathering information. 

Set your credit limits

If you’ve agreed to extend credit to a customer, you should then decide their credit limit. By now you’ll probably have a good understanding of the credit risk they pose, and this should be reflected in the amount they have access to. It makes sense that higher risk individuals or firms should not be able to finance as much as those with a strong credit history, and it would also be worthwhile to personalise terms to protect you. Consider higher interest rates and shorter agreements to ensure your firm gets what it’s owed.

There’s no such thing as a one-size-fits-all credit policy and time should be taken to plan and implement a suitable arrangement that maintains steady cash flow, avoids late payments and discourages fraud.