Should You Extend Credit to Your Customers

In these tough economic times, many business owners are trying to figure out a way to increase their sales.  Some people have begun to think about extending credit to their customers as a solution.  Many people are holding on to their money—afraid to spend it all at once—while others simply don’t have a large sum of cash to pay for a big ticket item, but would be able to make smaller monthly payments on it.  While extending credit has been proven to increase business sales—by 50 percent according to Marco Carbajo at All Business–it’s a strategy that you’ll have to think through carefully.  Here are the basic steps that you’ll have to attend to before you do it.

Acknowledge the Risks

When you extend credit to a customer there are always risks involved, so it’s vital that you don’t loan any money that you can’t afford to lose.  In addition, if an account goes into collections, you’ll need the resources to try and collect it—whether that be in-house or with a collections agency.

Leave No Stone Uncovered

It’s crucial that whenever you’re considering extending credit to a customer that you check them out thoroughly.  You should have them fill out a credit application—no matter how long you’ve been doing business with them, and then literally scour every inch of it.  Due diligence in this aspect will be the difference as to whether or not your credit program is successful.  Aside from the obvious—checking their credit history, talking to their bank and references—you should try and uncover what’s not included in the application.  For instance, is there a major supplier missing from a business customer’s reference list, or a house or car payment not listed on a retail customers application?  Don’t gloss over these oddities, but instead look into them as if your business’ financial health depends on it.   You’ll also need to pay strict attention to their income and debt ratio—you should never extend credit to someone who has 20 percent or more in debt payments.

Be Equipped

You’ll need quick access to a customer’s credit history, and the best way to accomplish this is to set up an account with the credit agencies or Dunn and Bradstreet —depending on whether your customers are individuals or businesses.  You will be required to pay a monthly fee for these services, but the potential in savings on bad debt can’t be overstated.  In addition, theNational Association of Credit Management acts as a watchdog and advocate for businesses who extend credit and you can find information on a person’s credit history there.

In addition, before you announce your intentions to extend credit, you will have to create your credit guidelines and policies.  For example, if you intend to grant customers a 30 day net, you should think about all of the specifics beforehand.  For example, what date will the accounts rollover?  What type of late fee will you charge?  At what point will an account be given over to collections?  It would be wise to create a procedure manual and a fact sheet to give to your customers just to make sure that everyone involved—from your staff to the person receiving the credit—understands the rules.

Finally, it should go without saying that once you begin extending credit, you’ll need a system in place where you can stay on top of all accounts.  Most experts agree that you should never let an account go past 120 days, and the longer a balance goes unpaid, the less likely you’ll be to collect it.  Your goal will be to prevent that from ever happening.  Do this by adhering to a strict schedule of phone calls and late notices once you realize that an account is late.

Extending credit can be a great way to increase your sales, but it must be done thoughtfully and strategically.  Be sure that your business is ready financially to take the jump, and then monitor the progress closely to insure that you collect everything that you’re owed.