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What Is a Credit Policy How To Create One

In the world of business and finance, the smooth flow of cash is crucial for sustainable growth and success. One essential tool that helps organizations maintain a healthy cash flow and mitigate credit risks is a well-crafted credit policy. A credit policy acts as a guiding framework that outlines the procedures, criteria, and guidelines for granting credit to customers or clients.

But what exactly is a credit policy, and how can you create one that aligns with your business goals and objectives? In this article, we will delve into the fundamentals of credit policies, their significance, and provide a step-by-step guide on how to develop an effective credit policy for your organization.

Whether you’re a small business owner, a financial manager, or a credit professional, understanding the ins and outs of credit policies is essential for making informed credit decisions, minimizing payment defaults, and maintaining a healthy financial position.

So, let’s dive in and explore the world of credit policies, uncovering the key components and strategies involved in creating a credit policy that works for your business.

What is a credit policy?

A credit policy refers to a set of guidelines and rules established by a company or organization to determine how it extends credit to its customers or clients. It outlines the terms and conditions under which credit will be granted, including the amount of credit that can be extended, the repayment terms, and the criteria for evaluating the creditworthiness of potential borrowers.

Credit policies are crucial for managing and mitigating credit risk, ensuring that businesses can balance the need to generate sales and revenue with the need to protect themselves from potential losses due to non-payment or default by customers. The policy serves as a framework for making decisions related to offering credit, setting credit limits, establishing payment terms, and managing collections and overdue accounts.

Key components typically found in a credit policy include:

  1. Credit evaluation criteria: Specifies the factors considered when assessing the creditworthiness of customers, such as credit scores, financial statements, payment history, and industry risk.
  1. Credit limits: Defines the maximum amount of credit that can be extended to a customer based on their creditworthiness, financial stability, and other relevant factors.
  1. Payment terms: Outlines the agreed-upon timeline for customer payments, including due dates, grace periods, and any applicable discounts or penalties for early or late payments.
  1. Collection procedures: Provides guidelines for pursuing collections on overdue accounts, including when and how to escalate collection efforts, such as sending reminders, issuing statements, or engaging third-party collection agencies.
  1. Credit monitoring and review: Establishes procedures for regularly reviewing and monitoring the creditworthiness and payment behavior of customers to identify potential risks and adjust credit terms as necessary.
  1. Approval authority: Specifies the individuals or departments responsible for approving credit applications and making credit-related decisions within the organization.

By implementing a well-defined credit policy, companies can effectively manage their cash flow, reduce the risk of bad debts, and maintain a healthy financial position while still supporting their customers’ purchasing needs.

Why do you need a documented credit policy?

Many finance teams rely on verbal communication for their credit policy, but there are significant advantages to documenting it in a centrally available place, fostering optimized communication among team members.

Firstly, documenting the credit policy helps prevent miscommunication of payment terms to clients. It allows for transparently setting payment expectations, ultimately strengthening business relationships.

Secondly, a documented credit policy ensures that all team members are aligned and following the same guidelines. This consistency establishes a reliable and clear process for credit management, eliminating any confusion or ambiguity.

Documenting the credit policy also saves time and money. A recent study by Panopto and YouGov highlighted the challenges faced by employees in large US organizations, with 60% struggling to access information from colleagues. On average, employees spend 5.3 hours per week searching for critical information or waiting for responses due to undocumented processes. This leads to frustration, as 81% of respondents expressed dissatisfaction with undocumented or inaccessible information. Such delays can be detrimental when making important decisions, such as approving credit terms for customers.

In conclusion, it is crucial to always document your credit policy as it not only saves time and money but also ensures clarity, transparency, and efficient decision-making processes.

4 factors to consider before writing your credit policy

Certainly! Here are four factors to consider before writing your credit policy, based on the outline provided:

1. The Current Economic Climate

Assess the prevailing economic conditions, both globally and locally, before formulating your credit policy. Economic fluctuations, such as recessions or industry-specific downturns, can impact the creditworthiness of customers and their ability to repay debts. Consider economic indicators, market trends, and forecasts to gauge the potential risks and adjust your credit policy accordingly.

2. Your Cash and Working Capital Position

Aligning your credit policy with your financial capabilities is crucial for sustainable growth. Evaluate your cash flow and working capital using cash management software to determine your credit extension capacity. Strike a balance between sales growth and cash reserves to develop a robust credit policy that meets operational needs while safeguarding liquidity. Embrace the benefits of cash management software for effective credit management.

3. The Size of Your Customers and Their Financial Position

Consider the size and financial position of your customers. Larger customers may have different credit requirements than smaller ones. Evaluate their financial statements, credit history, payment behavior, and credit scores to determine their creditworthiness. Assess their ability to fulfill payment obligations and consider establishing different credit limits or terms based on their size and financial stability.

4. Your Customers’ Business Sectors

Analyze the sectors in which your customers operate. Different industries have varying levels of risk and volatility. Some sectors may be more susceptible to economic downturns, regulatory changes, or competitive pressures. Understanding the risks associated with specific industries will enable you to tailor your credit policy to mitigate potential challenges. You may consider setting stricter credit terms for high-risk sectors or implementing industry-specific credit evaluation criteria.

By considering these factors—such as the current economic climate, your cash position, the size and financial position of your customers, and their business sectors—you can develop a credit policy that is well-aligned with your business objectives, risk tolerance, and the specific needs of your customer base.

How to write a credit policy in 5 steps

When developing your business’s credit policy, you can follow these five steps to guide you through the process:

Step 1: Outline your goals

Begin by clearly defining your goals for the credit policy. Identify what you aim to achieve with your credit management, such as minimizing credit risk, maintaining healthy cash flow, and fostering positive customer relationships. Consider your company’s overall objectives and align the credit policy accordingly.

Step 2: Define roles and responsibilities

Specify the roles and responsibilities of individuals or departments involved in the credit process. Determine who will be responsible for credit evaluation, credit limit approval, monitoring creditworthiness, and managing collections. Clearly define the decision-making authority and ensure accountability within the organization.

Step 3: Define credit evaluation criteria 

Establish specific credit evaluation criteria to assess the creditworthiness of potential customers. Consider factors such as credit scores, financial statements, payment history, industry risk, and any additional information relevant to your business. Define clear guidelines on how these factors will be evaluated and weighted to make consistent credit decisions.

Step 4: Define your terms of sale

Outline the terms of sale that will govern the extension of credit to customers. This includes specifying the credit limits that will be assigned to different customers based on their creditworthiness. Determine the payment terms, including due dates, discounts, penalties for late payments, and any specific conditions or requirements related to credit sales.

Step 5: Define your collections processes 

Establish procedures for managing collections and overdue accounts. Define the steps to be taken when a customer fails to make timely payments, including the timing and content of reminders, statements, and escalation to collection agencies if necessary. Clarify the process for resolving disputes and handling customer inquiries related to credit and collections.

Throughout the writing process, ensure that your credit policy is clear, concise, and easily understood by all stakeholders. It should be accessible to employees involved in the credit process and shared with customers as necessary to communicate your credit terms and expectations.

Remember that a credit policy is not static and should be periodically reviewed and updated to adapt to changing business needs, market conditions, and regulations. Regularly assess its effectiveness and make necessary revisions to ensure it remains aligned with your goals and supports your business’s financial health.

5 important items to clarify in your credit policy

Certainly! Here are five important items to clarify in your credit policy, based on the provided outline:

1. Credit Limits

Clearly define the credit limits that will be assigned to customers. Specify how credit limits are determined based on factors such as creditworthiness, financial stability, and historical payment behavior. Outline the process for reviewing and adjusting credit limits as necessary, ensuring they align with your business’s risk tolerance and objectives.

2. Payment Terms

Specify the payment terms that customers must adhere to when using credit. Clearly state the due dates, grace periods (if applicable), and any discounts or penalties associated with early or late payments. Provide details on how interest or finance charges, if any, will be calculated and applied.

3. Accepted Payment Methods

Outline the acceptable payment methods for customers to settle their credit accounts. Specify whether you accept cash, checks, credit cards, electronic transfers, or other forms of payment. If there are any restrictions or limitations on certain payment methods, clearly communicate them to customers.

4. Customer Data Needed

Define the customer data that is required for credit evaluation and account setup. This may include business information, financial statements, trade references, personal guarantees, or credit applications. Clearly state the documentation and information customers need to provide when applying for credit or requesting credit limit increases.

5. Bad Debt Policy

Establish a policy for managing bad debts and defaults. Define the steps to be taken when a customer fails to make payments, including the timeline for initiating collection efforts, engaging third-party agencies, or pursuing legal action if necessary. Communicate the consequences of non-payment and the impact on the customer’s future credit eligibility.

By clarifying these five items in your credit policy, you provide transparency and set clear expectations for both your customers and your internal teams. This promotes consistency, reduces misunderstandings, and helps mitigate risks associated with credit extension and collections management.

Boost your credit management with AR automation

Now that you have a clear understanding of what to include in your credit policy, here are some helpful tips to facilitate its enforcement:

1. Streamline with Accounts Receivable Automation

Utilize accounts receivable automation to simplify and streamline credit management workflows. This eliminates manual work, reduces errors in data entry, and enhances efficiency for your credit management team.

2. Automate Payment Reminders

Take advantage of automated payment reminders to gently remind customers about upcoming payment deadlines. Using a platform like Versapay, you can schedule reminders to be sent automatically in line with your collections policy, ensuring timely communication without any manual effort.

3. Provide a Centralized View of AR

Empower your credit and collections teams with an easy-to-access view of customers’ payment history. A centralized dashboard, such as the one offered by Versapay, enables informed decision-making by consolidating open receivables and highlighting customers with outstanding invoices.

4. Automate Cash Application

Avoid the pitfalls of manual cash application processes by implementing automation.,  With the right tools will help matching payments to the corresponding invoices, reducing errors and speeding up the replenishment of customer credit. Integration with your ERP system ensures seamless updates without manual data entry.

5. Collaborate with Customers Over the Cloud

Leverage digital tools to foster effective communication and collaboration with your customers. This brings together your credit, collections, and sales teams in a single place, allowing direct interaction with customers to resolve invoice disputes. User-friendly customer portal will provide transparency, enabling customers to view invoices, payment due dates, and maintain stronger relationships.

In the current economic climate, credit management plays a vital role in ensuring financial stability. By implementing these tips and aligning your credit policy with effective automation tools, you can enhance the efficiency, accuracy, and collaboration within your credit management processes.


A credit policy is essential for managing credit processes and customer relationships. It provides consistency, mitigates risks, and optimizes cash flow. By outlining goals, defining roles, setting evaluation criteria, specifying payment terms, and establishing a bad debt policy, businesses can enforce effective credit management. Automation tools streamline workflows and enhance efficiency. A well-defined credit policy and automation lead to success in credit management and financial stability.

Devang Mundhra

Chief Technology and Product Officer

Devang is an innovator who has spent the past 17 years building technology that has empowered businesses around the world. The BITS-Pilani and Stanford University alumnus honed his skills at Lattice Engines (since acquired by Dun and Bradstreet) and Oracle before joining KredX in 2016. At KredX he has led the creation of fintech innovations like KredX Invoice Discounting platform and KredX Cash Management Solutions. You can reach him through LinkedIn.