What is Trade Credit? Advantages & Disadvantages Explained

It’s not uncommon for B2B companies to extend trade credit to customers, allowing them to purchase a product or service without paying the cost upfront.

For small businesses in particular, using trade credit can be a valuable tool to improve cash flow management. Without the need to pay for goods straight away, you can keep more working capital available that can be invested in other areas of your business.

Although trade credit can be useful when money is tight and you need some help, it isn’t always as useful as it seems, and it definitely shouldn’t be viewed as a solution to ongoing financial problems. If you have lines of trade credit open with multiple suppliers, you need to have a plan for how you’re going to pay this money back otherwise, you’ll have cash flow issues in the future. Ideally, trade credit should be used sparingly and left for times when your business needs it most.

At 365 Finance, we’re here to help small business owners make the right financial decisions and provide access to the funds you need, exactly when you need them. 

In this article, we’ll provide an overview of the different types of trade credit you can access as a small business owner, the advantages and disadvantages of this type of financing and the alternatives you can use (which may be much more appropriate for your business).

How Does Trade Credit Work?

Trade credit is a common financing arrangement among B2B businesses where a buyer agrees to purchase an item from a supplier on credit and pay at a later date.  

When this type of arrangement is decided, both parties will agree on a timeframe for when the payment is expected. It can reduce the financial burden on businesses as they can spread out their purchases before peak season or delay payments when money is tight. For this reason, it can be a good arrangement for businesses that are going through slower periods or want to expand their operations.

Not all suppliers offer trade credit, and they can pick and choose what customers they will extend lines of credit to. The arrangement is highly dependent on the supplier and the relationship you have with them. 

Accepting trade credit comes with repayment terms; the most common are Net 30, Net 60 and Net 90 terms, where payment is due 30, 60 or 90 days after the invoice date.

There are a few other alternatives, including Cash on Delivery (COD), when payment is given upon delivery, Cash with Order (CWO), where payment is given before the goods are produced.

Before being offered trade credit, a supplier will usually run a number of creditworthiness tests on your business to check that you’re capable of repaying. You’ll also probably agree on terms if you don’t pay your invoice within the agreed timeframe, which will involve various financial penalties. 

It’s also a good idea to take out trade credit insurance, which can protect both you and the supplier in the case of unpaid invoices or issues with receiving the goods.

Types of Trade Credit 

Not all trade credit arrangements are the same. The type of credit will depend on your business, the goods or services you’re purchasing and the frequency you’ll need access to credit in the future.

We’ve broken down some of the most popular forms of trade credit so you can figure out which would be the most appropriate for your business and its needs.

Supplier Trade Credit

This is where a supplier will allow business customers to pay for their goods at a later date. This is purely for business-to-business transactions and will be tied to specific repayment terms that will be set at the time of applying for credit. 

Customer Trade Credit 

This type of credit is for businesses that allow their customers to buy goods or services on credit. Think platforms like Klarna, where customers can pay in 30 days or instalments. Businesses may do this to encourage customers to make a purchase and build loyalty.

Trade Credit Agreements with Wholesalers

Buying in bulk can make goods much cheaper through economies of scale, but sometimes small businesses don’t have the money to purchase such large quantities. With trade credit agreements with wholesalers, small businesses can secure bulk items without the upfront cost. This can allow businesses to stock up before peak season and encourage more sustainable business practices.

Open Account Credit

If you have a good relationship with a supplier, you may be offered open account credit. This is where goods are provided before payment is made, and there are usually more lenient repayment terms. These types of agreements usually come with less documentation, so they should only be used in circumstances where there is mutual trust between both parties.

Revolving Trade Credit

If your business needs some extra cash but does not necessarily need specific items from specific suppliers, revolving trade credit could be the best option. This is an ongoing, flexible credit arrangement where you agree on a level of credit which you can draw from as needed. Then, as you pay the money back, the credit becomes available for you to draw from again.

Promissory Notes & Bills of Exchange

Finally, promissory notes and bills of exchange are documentation tools to put the details of your agreement in writing. The promissory note is an agreement from the buyer to pay the invoice by a specific day, and the bill of exchange is a written document from the seller asking the buyer to pay the invoice following the agreed terms.

Advantages of Trade Credit 

A lot of businesses use trade credit to manage their cash flow throughout the year, and it’s easy to see why it’s become such a popular option.

Here are some of the advantages of seeking trade credit for your small business:

1. Improved cash flow: Whether you’re going through a slow patch or planning your big expansion, using trade credit to cover the cost of goods can ease your cash flow concerns. With trade credit, you can maintain liquidity while getting the supplies you need to keep your business moving.
2. Increased purchasing power: The cost of goods is going up and up, and there may be certain times of the year when you may not have the income to cover such expenses. Trade credit gives you the purchasing power to acquire the inventory you need without the high upfront costs.
3. No interest payments: Unlike traditional loans, you don’t have to pay interest on top of the trade credit amount. However, it’s important to note that there may be additional fees for late payments, depending on the supplier.
4. Stronger supplier relationships: If you’re getting trade credit from a supplier you regularly use, for example, a pub sourcing drinks from a brewery, having a trade credit relationship with good payment history will strengthen the trust and potentially give you access to much more favourable credit terms.
5. Competitive advantage: If you’re able to get quick access to goods, you can work faster than your competitors, scale your operations and meet the needs of your customers much better than anyone else.
6. No need to rely on external financing: Some small business owners may be wary of taking on too much external finance to keep their business running, but trade credit means you don’t have to be dependent on traditional bank financing that can often be slow and costly.

Disadvantages of Trade Credit

Although trade credit can be a great financing option in lots of different scenarios, it doesn’t always work for all businesses.

Here are just some of the potential downsides of trade credit: 

1. Risk of late payment fees: If you miss the payment deadlines on your trade credit, you may be subject to various financial penalties. Some suppliers may ask you to pay interest on funds that are owed or pay a late payment fee. It may also damage the relationship you have with the supplier and make it very unlikely that they’d offer you trade credit again in the future.
2. Credit limits: Suppliers set their own terms, and some may feel uncomfortable giving away large amounts of stock based on a promise of future payment. If you need significant amounts of stock, you may have to switch providers for one that offers higher credit limits or be less ambitious with your business growth.
3. Impact on your business credit score: If you don’t pay your trade credit on time, it can impact your credit score and hurt any future financing opportunities. The lesson is, only take out trade credit if you’re confident you can pay within the agreed timeframe.
4. Dependency on suppliers’ terms: With trade credit, suppliers have all the power. They can choose to alter the terms or set high credit limits as they wish; this can make the whole arrangement a lot less flexible than most businesses would hope for.
5. Potential cash flow issues: If you’re a seasonal business, it would make sense to use trade credit in the run-up to your peak season. But what happens if your peak season doesn’t go as well as you planned? If your sales don’t align with the repayment terms of your credit, you may struggle to pay on time. 
6. Limited access for new businesses: Finally, if you’re a start-up or small business, you may not have the credit score or relationships to prove to suppliers that you can pay back money, which could make them unlikely to offer lines of credit to you.

Alternatives to Trade Credit

Trade credit doesn’t work for every business, and if it doesn’t sound right for you, there are plenty of alternative financing options. 

Some businesses may choose to take out a bank loan to cover the cost of their goods. For example, you could be a seasonal cafe looking to expand and hire new staff. A bank loan would give you the funds to cover all these expenses, unlike trade credit with a singular supplier. However, bank loans are notoriously difficult for businesses (especially small businesses) to access quickly.

Revenue-based financing is becoming a much more popular option, particularly for small, seasonal businesses. With this type of financing, repayment is directly aligned with your business performance. A small percentage of each card transaction is used to repay your loans; as you get paid, so does your loan. 

Choosing a more flexible financing option takes out the stress that comes with traditional financing: no monthly minimums, no late payment fees and no damage to the relationships you’ve built with suppliers. It’s already hard enough being an SME in 2025; worrying about bank loans and trade credit repayments shouldn’t be another thing to keep you up at night.

Conclusion

In conclusion, trade credit is a common form of financing that businesses use to acquire goods and services without paying straight away.

Although it can be a good option for businesses who want to maintain liquidity and invest in other areas of their business, it can also cause big issues if you’re not able to repay the credit according to the terms.

The choice of taking out trade credit is highly dependent on your business, your current cashflow situation and relationship with your suppliers. If you don’t think trade credit is right for you, it may be a good idea to look into other options, like revenue-based financing, which is a flexible, scalable alternative.

At 365 Finance, we can offer revenue-based funding of £10,000 to £500,000 in capital, so your business can thrive all year round. Apply for funding today without affecting your credit score. Or speak to our team to find out how we can help your business.