How to create a credit policy
13 February 2012
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If you don't have a policy in place that dictates how much credit you'll extend and who to, you could be putting your business in a risky position. Creating a robust credit policy is one way of making sure you get paid in full, on time.

Know your customers

Check out all customers before you extend credit to them.  Do you know the exact name and type of business? Can you verify that they exist? Is the company or its owners liable for any debts? Can you obtain credit references? These are all questions you need to be able to answer before you can start funding their business with your hard-earned cash.
 
Read our tips for checking out new and existing customers and find out how to stay up to date with your customers' financial health, use a credit reporting and business monitoring service.
 
Intermediate and Advanced members of the Forum can access discounted credit reports and monitor up to six businesses free of charge.
 

Set the credit amount

Your credit policy should determine the total amount of credit your firm will allow. This is usually equal to the lower of 10% of your net worth or 20% of your working capital.
 
Next, calculate how much of this amount you will allow your customers to borrow from you. Arrange customers in bands according to their risk (i.e. low, medium, high). The lower the risk, the more credit can be allowed and vice versa. 20% of total debt owed to the supplier is a common maximum limit to the amount of credit to be given to high risk debtors. You should also consider individual circumstances when agreeing credit limits.
 
Review your customer credit limits regularly, based on the information you should be regularly gathering about them through monitoring. This should be performed frequently for new and fast-growing customers.
 
Remember, you can still sell to high risk customers, but consider less risky payment options such as ‘cash on delivery' or advance payment.
 

Set payment terms

You can only hold your customers to the terms that are agreed when an order is placed, so they need to be clearly communicated. You can do this by making sure that your standard terms and conditions of credit (i.e. ‘30 days from date of invoice') are clearly stated in all pre-sale communications, including your website, catalogue or price list. Submitting your terms and conditions with an invoice is usually too late in the event of a dispute.
 
Also remind your customers of the Late Payment of Commercial Debts (Interest) Act, which gives you the right to apply interest to overdue accounts. This is usually a very effective way of encouraging speedy payment although care should be taken not to alienate customers unnecessarily.
 

Enforcing your credit policy

For your credit policy to be effective, you need to ensure that your sales staff are aware of customers' credit limits and the terms they must observe. They should also be aware of circumstances in which credit limits may need to be reviewed. 
 
Intermediate and Advanced members can get further help and advice on credit management through an online Credit Control Guide and by calling our helpline on 0845 130 1722.
  
The Forum has teamed up with a number of leading business organisations to produce Get Paid! A free guide for small the owners and managers of small businesses. Download it here >


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