Question

Answer in brief.

What is trade credit?

Answer 1

1. Trade Credit refers to the facilities or credit extended by the manufacturer, wholesalers, and suppliers of goods to the purchaser but receives payment after the credit period from the date of purchase.
2. Trade credit is not a cash loan. It results from a credit sale of goods/services, which has to be paid at a future date after the sales take place.
3. This practice is done by a business concern with an intention to increase its sales or turnover, generate additional business and maintain a good relationship with the purchasers.
4. Suppliers sell the goods and allow 30 days or more for the bill to be paid. They even offer a discount, if bills are cleared with 30 days.

Following are the advantages of Trade Credit:

1. It is the cheapest and easiest method of raising short term finance. The terms and conditions are not rigid, i.e, they are flexible.
2. The supplier (creditor) is able to generate a higher volume of sales. The flexibility in purchasing encourages customers to make larger purchases when prices are right.
3. Trade credit allows the purchasers to place purchase orders without the need to pay upfront. This allows purchasers to use funds to pay long term debts and other critical payments.
4. Trade credit has no cost involved, no interest is payable for using the credit.
5. Due to the business relationship involved, the terms and conditions attached to trade credit are simple and not rigid. Also, there is no need for an agreement for trade credit.