Trade Credits:
Trade credit, is the extension of the line of
credit to the supplier or buyer of goods and services, i.e. between/ from one
trader to another. Trade credit allows traders to pay off debt, at a later
date, than previously agreed upon. To put it simply it is the concept of “Buy
Now, Pay Later” It is a tool to facilitate trade and continue the flow of goods
and services. It can be a method of short term working capital financing.
Trade
credit is extended if the following conditions prevail:-
1. Debtor has a good reputation of liquidity/
repayment;
2. Debtor a regular traders of goods and services;
3. supply of goods in the market a prime concern;
4. demand of goods in the market is high/rising;
5. standard trade practice;
6. mutual benefit accrued;
The
advantages of Trade Credits can be as follows:
1. Continuous cycle of trade;
2. Incentive to buyer/purchaser;
3. Increase in sales;
4. Inexpensive source of short term working capital
financing;
5. No legal formalities required;
6. Reduces working capital requirement;
Disadvantages
associated with Trade Credits are as follows:
1. Increased bad debts in case of non-payment;
2. Increased costs in case of non-payment on extended
due date;
3. Trade Credit is extended to already established
concerns;
4. No guarantee of repayment;
In
India, Trade Credit is regulated by the Foreign Exchange Management Act (FEMA)
1999, and by RBI through its Master Circulars.
FEMA
The
FEMA 1999, does not have an express provision relating to trade credit, but
includes Trade Credit as a part of payment in its definitions in section 2(i)[1]
and section 2(n)[2].
The
FEMA, 1999, under section 6(2)[3],
6(3)[4]
and 6(6)[5],
11[6],
and 47[7]
empowers the RBI to make regulations as deemed necessary by it, in the
pursuance of foreign exchange.
RBI
Thereby
the RBI as per its Master Circular on Extra Commercial Borrrowing’s (ECB’s),
regulates Trade Credit on Imports into India. The Circular provides for trade
credit being availed by suppliers or buyers of goods, up to USD 20 Million per
import.
Trade Credits (TC) refer to credits
extended for imports directly by the overseas supplier, bank and financial
institution for maturity up to five years. Depending on the source of finance,
such trade credits include suppliers’ credit or buyers’ credit. Suppliers’
credit relates to credit for imports into India extended by the overseas
supplier, while buyers’ credit refers to loans for payment of imports into
India arranged by the importer from a bank or financial institution outside
India.
(i) AD banks are permitted to
approve trade credits for imports into India up to USD 20 million per import
transaction for imports permissible under the current Foreign Trade Policy of
the DGFT with a maturity period up to one year (from the date of shipment).
(ii) For import of capital goods as
classified by DGFT, AD banks may approve trade credits up to USD 20 million per
import transaction with a maturity period of more than one year and up to five
years (from the date of shipment). No roll-over/extension will be permitted
beyond the permissible period. The ab-initio contract period should be 6 (six)
months for all trade credits.
(iii) The period of trade credit
should be linked to the operating cycle and trade transaction. AD Category – I
banks may ensure that these instructions are strictly complied with.
The existing all-in-cost ceilings
are as under
|
Maturity period
|
All-in-cost ceilings over 6
months LIBOR*
|
|
Up to one year
|
350 basis points
|
|
More than one year and up to
three years
|
|
|
More than three years and up to
five years
|
* for the respective currency of
credit or applicable benchmark
* for the respective currency of credit or applicable benchmark
* for the respective currency of credit or applicable benchmark
The all-in-cost ceilings include
arranger fee, upfront fee, management fee, handling/ processing charges, out of
pocket and legal expenses, if any.
AD banks are permitted to issue
Letters of Credit/Guarantees/Letter of Undertaking (LoU) /Letter of Comfort
(LoC) in favour of overseas supplier, bank and financial institution, up to USD
20 million per transaction for a period up to one year for import of all
non-capital goods permissible under Foreign Trade Policy (except gold,
palladium, platinum, rodium, silver etc.) and up to three years for import of
capital goods, subject to prudential guidelines issued by Reserve Bank from
time to time. The period of such Letters of credit / Guarantees / LoU / LoC has
to be co-terminus with the period of credit, reckoned from the date of
shipment.
The AD banks are not permitted to
issue Letters of Credit / Guarantees / Letter of Undertaking (LoU) / Letter of
Comfort (LoC) in favour of overseas supplier, bank and financial institution
for the extended period beyond three years.
AD banks are required to furnish
details of approvals, drawal, utilisation, and repayment of trade credit
granted by all its branches, in a consolidated statement, during the month, in
form TC (format in Annex IV) from April 2004 onwards to the Director, Division
of International Trade and Finance, Department of Economic Policy and Research,
Reserve Bank of India, Central Office Building, 8th floor, Fort, Mumbai – 400
001 (and in MS-Excel file through email) so as to reach not later than 10th of
the following month. Each trade credit may be given a unique identification
number by the AD bank.
AD banks are required to furnish
data on issuance of LCs / Guarantees / LoU / LoC by all its branches, in a
consolidated statement, at quarterly intervals (format in Annex V) to the
Principal Chief General Manager, Foreign Exchange Department, ECB Division,
Reserve Bank of India, Central Office Building, 11th floor, Fort, Mumbai – 400
001 (and in MS-Excel file through email) from December 2004 onwards so as to
reach the Department not later than 10th of the following month.”
[1]
payments due in connection with foreign trade, other current business,
services, and short term banking and credit facilities in the ordinary course
of business,
[2]
"foreign exchange" means foreign currency and includes,- (i) deposits,
credits and balances payable in any foreign currency,
[3]
The Reserve Bank may, in consultation with the Central Government, specify….,
[4]
Without prejudice to the generality of the provisions of sub-section (2), the
Reserve Bank may, by regulations, prohibit, restrict or regulate the
following…..
[5]
Without prejudice to the provisions of this section, the Reserve Bank may, by
regulation, prohibit, restrict, or regulate establishment in India of a branch,
office or other place of business by a person resident outside India, for
carrying on any activity relating to such branch, office or other place of
business.
[6]
Reserve Bank's powers to issue directions to authorised person
[7]
47. Power to make regulations:
[8] TRADE
CREDITS FOR IMPORTS INTO INDIA
[9] https://rbi.org.in/scripts/BS_ViewMasCirculardetails.aspx?id=9069#S57,
OFFICIAL RBI 2015 MASTER CIRCULAR ON ECB, LAST VISITED 26/05/2015
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