What is a Buyer's Credit
Buyer's credit is a loan facility extended to an importer by a bank or financial institution to finance the purchase of capital goods or services and other big-ticket items. Buyer’s credit is a very useful mode of financing in international trade, since foreign buyers seldom pay cash for large purchases, while few exporters have the capacity to extend substantial amounts of long-term credit to their buyers. A buyer’s credit facility involves a bank that can extend credit to the importer, as well as an export finance agency based in the exporter's country that guarantees the loan. Since buyer’s credit involves multiple parties and cross-border legalities, it is generally only available for large export orders, with a minimum threshold of a few million dollars.
BREAKING DOWN Buyer's Credit
Buyer’s credit benefits both the seller (exporter) and buyer (importer) in a trade transaction. The exporter is paid in accordance with the terms of the sale contract with the importer, without undue delays. The availability of buyer’s credit also makes it feasible for the exporter to pursue large export orders. The importer obtains the flexibility to pay for the purchases over a period of time, as stipulated in the terms of the buyer’s credit facility, rather than up front at the time of purchase. The importer can also request funding in a major currency that is more stable than the domestic currency, especially if the latter has a significant risk of devaluation.
The export finance agency's involvement is critical to the success of the buyer’s credit mechanism, since its guarantee protects the bank or financial institution that makes the loan to the foreign buyer from the risk of non-payment by the buyer. The export finance agency also provides coverage to the lending bank from other political, economic and commercial risks. In return for this guarantee and risk coverage, the export agency charges a fee or premium that is borne by the importer.
How Does Buyer's Credit Work?
The buyer’s credit process typically has the following steps: The exporter enters into a commercial contract with the foreign buyer that specifies the goods or services being supplied, prices, payment terms, etc. The buyer obtains credit from a bank or financial institution to finance the purchase. An export credit agency based in the exporter’s country provides a guarantee to the lending bank covering the risk of default by the buyer. Once the exporter ships the goods, the lending bank pays the exporter as per the terms of the contract with the buyer. The buyer makes principal and interest payments to the lending bank according to the terms of the loan agreement until the loan has been repaid in full.