Trade Credit Terminologies: 15 Terms You Must Master

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Trade Credit Terminologies can be confusing to understand. Yet, you must master them to fully benefit from trade credit insurance. Trade Credit Insurance is a policy bought by traders that sell on credit terms. It protects against losses from unpaid invoices, thereby avoiding cash flow problems that can occur when your customers default. Take responsibility by understanding trade credit insurance for the benefit of your business. In this article, we will discuss terms used in this business.

15 Common Trade Credit Terminologies

1. Interest Rate:

The interest rate is the charge that banks charge when you borrow money. If you sell goods on credit, then you will need a trade credit insurance policy for a bank to give you a business loan.

2. Credit Period:

Most businesses provide credit terms to their customers. This allows the customers to take goods now and then pay later. The credit period refers to the time between collecting and making payment for the same.

3. Underwriter:

This refers to a trained person who accesses the risk in insuring people and assets. Then they determine the price of insurable risk. Essentially, underwriters are risk managers for companies. This is one of the most commonly used trade credit terminologies.

4. Loss Ratio:

The loss ratio is the percentage of a claim paid out to the insured in comparison with premiums earned. It is calculated by adding Insurance claims paid out to loss adjustment expenses, then dividing total premiums received from customers. The loss ratio level provides a picture of the financial health of an insurance company.

5. Payment:

In trade credit terminologies, Payment could mean the actual act of receiving money from your customer for goods sold on credit. Non-payment is where the opposite happens. Payment could also refer to money received when from the claims to insurance companies.

6. Credit Limit:

This is the maximum amount of money you allow a customer to take goods on credit. For example, the limit for customers can be $1,000. This means they can take goods on credit up to this limit. Reputable customers will be able to attract high limits and good prices. The limit will reduce as soon as their performance deteriorates. It is common for insurance companies to satisfy themselves with the robustness of your credit policy.

7. Credit Insurance Premium:

The fee charged by an insurance company for providing coverage to their client. Your policy becomes effective once you make payment for the insurance premium.

Trade Credit Terminologies

8. Insured Account/Accounts Payable:

An insured account refers to one that is covered under trade credit insurance. You can choose to insure some accounts and leave out others. The ones you select will be insured accounts. Insurance policies cost money. Therefore, there is no point in insuring an account that is unlikely to default.

Account Payable in trade credit terminologies refers to your obligations to pay suppliers. The insurance company will be keen to establish how payable accounts compares to receivable accounts. They will need to establish the liquidity position by checking if account receivables exceed accounts payable accounts.

9. Claims: These trade credit terminologies refer to the action by the insured entity to seek reimbursement after a calamity happens. A claim should be in writing, providing evidence of the occurrence of the insured event.

10. Subrogation:

What happens when you claim? The insurance will honor the claim if it is valid. Through subrogation, the insurer becomes entitled to any funds recovered after that. Wikipedia describes subrogation as the assumption by a third party of another party’s legal right to collect a debt or damages.

11. Cancellation Clause:

A cancellation clause is a section in an insurance policy that allows either party to cancel the policy at any time for any reason. Most policies have a 30-day cancellation clause.

12. Assignment, This is where one party transfers their rights to a third party. Companies that take trade credit insurance can assign the policy to banks as security for loans. With the assignment of the policy, the bank becomes the beneficiary.

13. Claim Submission:

The process of reporting and documenting credit losses due to unpaid invoices from suppliers who have financial difficulties. Claims should be in writing and must be within the period provided for in the policy.

14. Creditor:

An entity that lends to your money, goods, or services is a creditor. Creditors are effectively suppliers who have financed you by allowing you to use the goods to generate revenue. They do not pose a credit risk to you. On the contrary, they carry credit risk on you.

15. Repudiation:

This refers to the decision by the insurer not to accept a claim made by an insured party. Reasons for repudiation vary. Maybe due to the event not being part of the coverage. Or the insured party breached their obligations set under the policy.

We hope this article was helpful in understanding common trade credit terminologies used in business. Let us know what other terminologies we should talk about in the future.