Trade credit allows a buyer to receive goods or services before paying the supplier under agreed payment terms. The supplier finances the interval between delivery or invoicing and the due date. It differs from a bank loan because the credit arises from the commercial transaction itself.
How does trade credit work?
The supplier approves a credit limit and terms, supplies the goods or services, issues an invoice and records a receivable. The buyer records a payable and pays by the due date. Limits, deposits, guarantees, insurance or overdue controls may change as the relationship develops.
How can the cost of declining a discount be estimated?
When terms offer an early-payment discount, an illustrative annualized cost of not taking it can be estimated as discount ÷ (1 − discount) × 365 ÷ extra credit days.
Illustrative trade-credit discount calculation
| Step | Arithmetic | Result |
|---|---|---|
| Discount | Illustrative early-payment discount | 2% |
| Extra credit period | 30 − 10 | 20 days |
| Periodic cost | 2% ÷ 98% | 2.0408% |
| Illustrative annualized cost | 2.0408% × 365 ÷ 20 | About 37.2% |
The example is a simple annualized comparison, not an effective annual rate or a recommendation. Taxes, compounding, cash constraints and the supplier relationship may affect the decision.
Trade credit vs. trade finance
Trade credit is extended directly by the supplier. Trade Finance uses bank, insurer, factor or other financing structures to support trade obligations and risk.
