How to avoid credit loss?

Everybody surely knows the situation, that contract has been concluded, service or product delivered and the client is not willing to pay for it. We wish to trust people, to believe the best of everybody. However, sometimes gullibility and too positive attitude might backfire on you. You have to collect the receivables through debt collecting agencies, in court or recovery proceedings. This causes you trouble and takes both your time and money.

What credit loss is in practice and how to avoid it. Credit loss is defined as follows: it is a loss caused to vendor/supplier/lender in case buyer/client/borrower is not able to overcome his financial obligations. Put simpler, the buyer has not done his part of the deal.

Advance payment

The easiest way to make sure, that the supplier gets the agreed payment for the product or service, is to collect advance payment. If the client takes the assignment seriously, there should be no problem with advance payment. The advance payment should, however, be big enough to be a significant loss to the client in case he does not pay the total purchase price. There is no percentage limits or established practice for the advance payment. The vendor has to estimate what is reasonable considering the quality and coverage of the service or the product.

Advance payment is not, however, always alone sufficient. It is possible that the product or service is so valuable, that advance payment has to be used together with additional means of ensuring.

Securities and collaterals

Securities and collaterals are another way to ensure payment. Securities are for example an important part of financing plans. Usually real securities will be demanded as security for loan, e.g. real estate mortgage, quoted shares or shares of stock in a housing corporation, which start-up businesses usually do not have sufficiently in the beginning. Also business mortgages and different kinds of collaterals serve as securities. These kinds of securities (generally used by banks) do not, however, easily adapt to small-scale business.

In foreign trade, for example, it might be worthwhile looking into credit risk guarantees or buyer credit guarantees. Credit risk guarantee is credit insurance, which secures the exporter against the losses depending on the buyer or on the state of the buyer. Buyer credit guarantee is a security for the lender against the credit loss depending on foreign buyer, his bank or the state.

Other means

Checking client’s credit report is quite an easy way to make sure if the client has solvency in general for the assignment and if he has disruptions in payments.

You should always trust your intuition. If you get an impression of your client, that “everything is not alright now”, you are probably right. If the client seems to be very busy, wants several different things, complains about the price or about the actions of other service providers etc., the warning bells should start going off in your head.

Finally

You should not be cynical and think ill of everybody, but you should still be attentive and careful to minimize your future losses. In addition to this always draft your contracts in writing and attach the general conditions of the trade, service or assignment to your contract.