Open Accounts, Promissory Notes and Bills Payable: Types of Trade Credit
Trade credit is an agreement between a buyer and a supplier to exchange goods without immediate payment. The seller provides the goods on credit and is repaid in cash at a later date. It can help you meet your business's short-term financial needs. There are three types.
Open accounts. This type of trade credit functions as an informal agreement that allows the seller to supply goods to the buyer, and the exchange becomes the buyer's liability. The credit is expected to be paid back by the buyer at the stipulated time.
Promissory notes. This is a written agreement between the buyer and the seller made after the commodities are exchanged. In the paper, the buyer notes and promises to repay the seller at an agreed date. Should the buyer not pay within the promised period, the seller may demand another document acknowledging a new repayment date, and it may detail the interest incurred over the extended period.
Bills payable. This is a module designed by the seller in agreement with the buyer to repay a certain amount at a defined date. It is a bill that contains all the information about the terms of the transaction. The supplier may use this bill to gather funds by agreeing on a discount with the bank. The bank funds the account, and the buyer repays the agreed amount to the bank at a later time.
The difference between the three lies mainly in how formal the promise is. An open account rests on trust and a stipulated time. A promissory note puts the promise on paper and allows for an extension with interest. A bill payable carries all the terms of the transaction and can even be turned into cash by the supplier through a bank.
Remember that sellers rarely extend credit to brand-new businesses, so bring evidence of your financial plan and your prospects when you ask, and be sure you can repay at the agreed date.