Using credit, personal guarantees and security interests to protect your small business

Most small businesses, at one time or another are likely to have problems with their customers. One frequent issue is not being paid by the customers for the service or product that you provided. Here are some tips for avoiding some of these common problems with customers. Below learn how to use credit, customer guarantees and security interests to guarantee payment.

Preventative actions

The best way to handle customer problems is to avoid them in the first place. The information provided here may not guarantee that customers will sing your praises, but it will help you to get paid on time and limit your potential liability.

Extending lines of credit

In many businesses, making your customer’s purchase of your product or service as easy as possible can make the difference between a company that is holding on and a company that is prospering. However, you do not have to give away all the lucky charms. Below you will learn about some techniques that give you the best chance of getting your money back after extending credit.

Preparing to extend credit

If you are going to extend significant credit to a customer, other than accepting a credit card, in which case the credit card company takes care of this stuff, consider taking some of the following steps:

Have customers fill out a credit application

A credit application solicits important information about the customer’s background, such as:

  • How the customer operates (individual, sole proprietor, corporation or partnership)
  • The trade that the customer is in
  • References (from other companies that extend credit to the customer and regularly receive payment on time from that customer)
  • Bank references

Run a credit check

Consider obtaining a credit report from a credit rating agency, such as Experian or Equifax. To get information on individuals, you need their consent to do a search, you can include a request for consent in the credit application. You typically need the individual’s name, city, Social Security number, and date of birth.

Require a customer guarantee

If the customer is a company with minimal assets, request that the owners personally guarantee the company’s obligations. Then make sure that the person giving the guarantee has some assets to back up the guarantee.

Have the customer sign a security agreement

Take a security interest in the goods if you are selling them on credit and if they are expensive. A security interest provides you with the benefit that, if the customer does not pay, you can sell or take back the goods, as opposed to simply being one of the customer’s unsecured creditors.[1]

[1] Richard D. Harroch, Small Business Kit for Dummies, (Wiley 2nd Edition)(2004).