Professional Documents
Culture Documents
CREDIT, defined
The word credit is derived from the Latin term CREDITUM, which means trust.
It refers to the ability/power to acquire something of value, such as goods, services, securities or money at
the present time in return for a promise to pay at some future time.
ELEMENTS OF CREDIT
RISK
USE OF TRUST
TIME OR FUTURITY
CREDITOR- DEBTOR RELATIONSHIP ESTABLISHED
CREATION OF LEGAL OBLIGATION
CHARACTERISTICS OF CREDIT
RISK - inherent to all credit transactions. For indeed, until the obligation becomes settled or discharged, there
is always the possibility that the debtor may not be able to pay, or even if able to pay may not be willing to
pay the obligation.
THE USE OF TRUST - A characteristic of credit that without which, credit and the corresponding credit
transactions will not exist.
CREDIT INVOLVES TIME OR FUTURITY - creditor looks forward to the future as specified in the credit instrument
when he will receive payment from his debtor as promised.
CREDIT GIVES RISE TO CREDITOR-DEBTOR RELATIONSHIP as evidenced by the use of credit instruments. Such
relationship arises from the moment a creditor manifests his trust on his debtor by parting with his goods,
money or services in exchange for the promise on the part of the latter to pay his obligations on the date
promised.
CLASSIFICATION OF CREDIT
From the point of view of acceptability or usefulness as a medium of exchange
According to form or to the kind of accommodation a lender may give to the borrower
According to type of user
According to maturity
According to security
According to purpose or use
According to form or to the kind of accommodation a lender may give to the borrower
Direct Loan the lender may give to the borrower the exact amount as contained in the promissory note.
The interest is collected at maturity or periodically.
Discounted Loan - the lender collects in advance the interest and gives to the borrower the balance. At the
end of the year, the borrower pays the full amount, i.e., the amount of money he received plus the interest.
Consumer or Personal Credit either as Charge Account, Installment Credit or Cash Loans
Consumer or Personal Credit is the kind of credit which is usually extended to an individual rather than to
business. The purpose is to finance some personal needs like the purchase of merchandise or commodities
on a deferred payment plan.
Types of Personal Credit:
o Charge Account
o Installment Credit
o Personal Loan Credit
BANK CREDIT
Credit given by commercial banks to businessmen intended to assist them in the operation of their business.
Repayment is oftentimes done within a short period of time
LINE OF CREDIT
An agreement between a commercial bank and its clients to the effect that the former undertakes to make
loanable funds available to the latter whenever the latter is in need of additional funding provided the total
loans will not exceed the maximum allowed. As consideration for this commitment of funds, the borrower is
charged a commitment fee for the unused portion of his line of credit.
Three types of credit lines:
o Regular credit line
o Maximum loan commitment
o Overdraft line
LETTER OF CREDIT
An instrument where the bank substitutes its credit for that of the applicant of the letter of credit.
The bank, in behalf of the buyer of merchandise gives formal evidence to the seller of its willingness to permit
the seller to draw on certain terms and stipulates in legal form that all such bills will be honored by the bank.
INVESTMENT CREDIT
Is obtained to provide funds needed by the business to acquire costly productive and marketing facilities.
ACCORDING TO MATURITY
Demand Loans are accommodations which have no definite maturity dates and are payable upon demand
by the lenders.
Time Loans loans which have definite maturity dates, such as:
o Short-term credit
o Intermediate or Medium-term credit
o Long-term credit
ACCORDING TO SECURITY
Secured Loans loans guaranteed by the assignment of some tangible assets of value which may be sold by
the lender in case the borrower fails to pay his obligation, the returns or proceeds of which may be applied
to the settlement of the debt.
Unsecured Loans loans which are oftentimes called character or clean loans which are backed up solely
by the integrity, ability and willingness of the borrower to pay.
AGRICULTURAL CREDIT
Extended to farmers for the development, improvement and cultivation of their lands.
COMMERCIAL CREDIT
Kind of credit that is a source of funds for business firms or individuals in business to meet their immediate
needs in the business operations.
This is a type of short-term loan granted to finance the production and distribution of commodities either by
wholesale or retail, whether in storage or in transit to foreign or domestic markets.
CONSUMER CREDIT
This type of loan is granted to borrower for the purchase of goods or services for personal purposes usually
for immediate consumption.
Credit Risk
CREDIT RISK
The possibility the possibility that the debtor may not be able to settle his obligations on due dates.
May be minimized by a careful examination of the Cs of Credit.
Cs OF CREDIT
CHARACTER
o COUNTRY
o CURRENCY
CAPACITY
o CAPITAL
o COLLATERAL
o CONDITIONS
CHARACTER
The quality of the debtor, which makes him pay or intend to pay when his debt is due.
Is reflected by the persons habits, his reputation for honest dealings, lifestyles, his social and business
associates and his manner of living.
IS THE DEBTOR WILLING TO PAY?
CAPACITY
Represents a persons ability to pay his obligations when they fall due.
o A debtor may be willing to pay his debt, but may not have the cash with which to pay when it falls due.
Capacity can be gauged from his sense of responsibility, his age, his educational background.
DOES THE DEBTOR HAVE THE ABILITY TO PAY? or, CAN THE DEBTOR PAY?
CAPITAL
The financial strength of the borrower as may be indicated by the relationship of the assets he owns and the
liabilities he owes.
Francisco, Sharmaine M. IA 209
The persons net worth.
HOW MUCH CAN THE DEBTOR PAY?
COLLATERALS
Properties of value that can be pledged, assigned or mortgaged to the lender to guarantee the payment of
obligation.
o Foreclosure of mortgage and the necessary sale at public auction (to the highest bidder) and the proceeds
of sale shall be used to cover whatever amount is due to the lender.
CHATTEL MORTGAGES loans secured by movable/personal properties.
REAL ESTATE MORTGAGES loans secured by fixed assets.
CONDITIONS
Refers to the economic conditions of the country, which could be the trends or developments in business
activities.
These trends are actually the ups and downs in business activities, in which economists consider as the
business cycles.
o The most favorable time to extend credit is at the level of recovery and the height of the period of
prosperity.
These are external factors over which the credit applicant has little or no control but which may have
significant influence upon the appraisal of credit risk.
COUNTRY
In international trade transactions, the sale of goods and services in any part of the world on credit
involves risk;
o The stability of the country of importation is an important factor to reckon with in the consideration
of credit risk.
CURRENCY
When the currency of a country continuously fluctuates, this circumstance may prevent the grant of credit to
the prospective buyer or importer of goods.
o For it may happen that at the time of payment of the obligations, the money paid to the exporter is not
worth as it used to be when the contract of sale was perfected.
SOURCES OF CREDIT
CREDIT UNIONS SSS/GSIS
PAWNSHOPS CREDIT CARDS
INSTALLMENT HOUSES INSURANCE COMPANIES
RETAIL STORES NEIGHBORHOOD LENDERS
BANKS
DEFINITIONS
CREDIT UNIONS - Extends financial assistance to its members without requiring collaterals
PAWNSHOPS - Grant loans based on the estimated value of jewelry, precious metals and selected personal
property.
GSIS - Grant loans to members who are employed in the government or public sector
Francisco, Sharmaine M. IA 209
SSS - Grant loans to members who are employed in the private sector
BANKS - Grant loans based on the market value of collaterals
INSTALLMENT HOUSES - Sells goods on installment at prices higher than cash price
INSURANCE COMPANIES - Lends money to policyholders based on the value of the insurance policy (cash
surrender value)
CREDIT CARDS - It is often referred to as plastic money. It enables the holder thereof to make purchases on
credit.
ADVANTAGES OF CREDIT
Credit promotes the fullest utilization of wealth.
Credit enhances the salability of goods and services.
Credit functions as money, either supplanting (taking the place of) or supplementing (adding to) it.
Credit creates purchasing power.
Credit gives fluidity to wealth.
Credit facilitates the assembly of large amounts of capital to undertake large scale production of modern
times.