Credit limit

A credit limit is the monetary limit to which a creditor/lender wishes to extend credit to a debtor/borrower.

The credit limit can vary from debtor to debtor - or from industry to industry.

In some accounting and ERP systems, a credit limit is also called credit max, credit maximum or credit size - but is basically the same thing.

Why introduce a credit limit?

All credit carries a risk - a risk that the debtor/borrower will not be able to pay back all or part of the amount. There are many reasons for this, but it can be the result of bankruptcy, death or a change in financial circumstances.

Therefore, it is also important that you as a creditor/lender impose a credit limit to minimize your potential loss on each debtor.

What should a credit limit be?

You basically can't say what a credit limit should be in general. Some customers should have no credit, while other customers may have millions in credit limit.

You should consider each debtor individually when setting the credit limit. If you don't consider the individual debtor, there is too great a risk that individual debtors will have too high credit limits - and thus pose too great a risk to your credit policy.

You should basically set your credit limits based on the following:

• Payment history: Has the customer previously paid all invoices on time?
• What are the customer's accounting figures?
• What industry is the customer in?
• Who is the owner and management of the company?
• What is the company's legal form?

There are also a number of online tools that can help you set a credit limit for your customers based on their information, including Qatchr.

Why extend credit?

"Why extend credit at all? That way you minimize the risk of bad payers."

We are often asked this question, and it is basically correct. If no credit is granted, you will theoretically also minimize your risk of losses on debtors.

But credit is used in many industries as a sales and competitive differentiator - so much so that if your business doesn't provide credit, you risk customers choosing you over competitors who do.

With a good credit scheme, for example, a builder can purchase materials from a DIY store, use them on site and receive payment from the customer before they settle with the DIY store. This gives tradesmen a number of cash flow advantages and they don't need to pay for the materials before they are used and invoiced. Tradesmen will therefore turn you down if you don't offer credit.

In addition, credit time can also be a competitive parameter.

Get help with credit limits with Qatchr

Qatchr is an online tool that can help you with everything from KYC and credit checks to setting credit limits for your private and business customers.

Our online solution collects a range of public and non-public data about your customers and uses it to give you financial insights into your customers. It also includes advice on credit duration and credit limits for your customers.

You are welcome to contact us today for a demo of the system.