Seasonal Credit: An Overview
Seasonal credit is a flexible credit arrangement that allows a business to pay its expenses consistently despite extreme fluctuations in revenue from month to month. Seasonal credit is usually approved as a line of credit and is later classified as revolving credit. That is, the credit line remains open long term so that the business can borrow and repay the money continuously, up to a maximum, as needed.
The Federal Reserve has a similar short-term lending program for smaller banks that experience extreme seasonal fluctuations in business loan applications. The program has a related goal: To keep local businesses going during their dry periods.
- Seasonal credit is used primarily by businesses that experience big fluctuations in revenue during the year.
- This type of revolving credit is used to cover routine and unexpected business expenses when business is slow.
- A similar type of credit is supplied by the Federal Reserve to banks in communities that are dominated by businesses with high and low seasons.
Understanding Seasonal Credit
Most businesses experience seasonal swings in cash flow but some experience extreme fluctuations. Notably, retailers look forward to Black Friday because that day in November is when they look forward to getting "out of the red" in their only profitable season of the year. Resorts and the businesses that cater to them are other examples.
Farmers also experience long dry periods, during which they have to spend money in order to make money from their crops.
A retailer may run on credit up until "Black Friday," the day when the business starts making a profit.
However, virtually any type of business can experience a long dry period between the day a product enters the planning and production stages, and the day a buyer receives and pays for that product. Seasonal credit is used to anticipate that payment.
The Slow Season
Many manufacturers and wholesalers also experience seasonal sales fluctuations. Yet their fixed costs don't fluctuate. The businesses have to continue meeting their payrolls, operating their facilities, paying their taxes, and drumming up more orders. All of that activity is in anticipation of a payday for the business that is well into the future.
In such cases, many businesses borrow money to get through the lean months until the revenue starts flowing. This allows them to continue operating smoothly during months when there may be little or no income. They can manufacture goods after they are ordered but before they are paid for. They can even pay for business expansions or improvements that would otherwise not be possible.
The Federal Reserve rate for seasonal credit to qualifying lending institutions, as of late 2020.
Revolving Credit vs. Fixed-Term Credit
Most businesses that rely on seasonal credit use revolving credit rather than fixed-term credit. A revolving credit line, like a credit card, can be repeatedly accessed as needed and repaid in full or in part as required.
It also is a long-term arrangement. As long as regular payments are made, the line of credit remains open.
Fixed-term credit, on the other hand, involves borrowing a set amount of cash and paying interest on the entire amount in a series of installments. That makes sense only if a business is borrowing money to pay for a specific one-time project, such as a purchase of new equipment.
Seasonal Credit and the Federal Reserve
The term seasonal credit may also refer to a type of short-term discount credit extended by the Federal Reserve. In this case, the credit lasts for up to nine months and is restricted to smaller banks that experience unusual fluctuations in demand.
The Federal Reserve defines a smaller bank as one having less than $500 million in deposits. Many of those banks serve farming communities where demand for loans is concentrated in a few months of the year. However, the program keeps money flowing to other entities that have seasonal fluctuations in revenue, such as colleges and municipalities.
The Fed program is restricted to smaller lending institutions and only those with "demonstrated liquidity pressures of a seasonal nature." The purpose is to free up liquidity at such banks so that they have more money available for local business lending.
As of late 2020, this Federal Reserve's seasonal credit rate was 0.15%.