Custom Search

Credit Agreements

The terms of sale define the amount of any credit but not the nature of the contract. Repetitive sales are almost always made on open account and involve only an implicit contract. There is simply a record in the seller`s books and a receipt signed by the buyer. Sometimes you might want a more formal agreement that the customer owes you money. Where the order is very large and there is no complicating cash discount, the customer may be asked to sign a promissory note. This is just a straightforward IOU, worded along the following lines:

New York

April 1, 2001

Sixty days after date, ABC, Inc., promises to pay to the order of the XYZ Company ten thousand dollars ($10,000) for value received.

Signature

Such an arrangement is not common but it does eliminate the possibility of any subsequent disputes about the amount and existence of the debt; the customer knows that he or she may be sued immediately for failure to pay on the due date.

If you want a clear commitment from the buyer, it is more useful to have it before you deliver the goods. In this case the common procedure is to arrange a commercial draft. This is simply jargon for an order to pay.2 It works as follows. The seller prepares

a draft ordering payment by the customer and sends this draft to the customer`s bank. If immediate payment is required, the draft is termed a sight draft; otherwise it is known

as a time draft. Depending on whether it is a sight or a time draft, the customer either tells the bank to pay up or acknowledges the debt by adding the word accepted and a signature. Once accepted, a time draft is like a postdated check and is called a trade acceptance.

This trade acceptance is then forwarded to the seller, who holds it until the payment becomes due. If the customer`s credit is for any reason suspect, the seller may ask the customer to arrange for his or her bank to accept the time draft. In this case, the bank guarantees the customer`s debt and the draft is called a banker`s acceptance. Banker`s acceptances are often used in overseas trade. They are actively bought and sold in the money market, the market for short-term high-quality debt.

If you sell goods to a customer who proves unable to pay, you cannot get your goods back. You simply become a general creditor of the company, in common with other unfortunates. You can avoid this situation by making a conditional sale, so that ownership of the goods remains with the seller until full payment is made. The conditional sale is common in Europe. In the United States it is used only for goods that are bought on installment. In this case, if the customer fails to make the agreed number of payments, then the equipment can be immediately repossessed by the seller.

OPEN ACCOUNT

Agreement whereby sales are made with no formal debt contract.