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1. Companies make sales to customers on credit. The customer receives the product or service, but pays the company later. But, what if the company would prefer to have the cash now?
1. Companies make sales to customers on credit. The customer receives the product or service, but pays the company later. But, what if the company would prefer to have the cash now?
Banks and other financial institutions will give companies cash in exchange for the rights to the company's receivables. Banks receive compensation in this arrangement by paying the company less than the full amount of the accounts receivable balance.
2. What is important to consider in these arrangements?
2. What is important to consider in these arrangements?
Which rights and risks are retained by the company (called the transferor) and which are passed to the bank (called the transferee)?
The answer to this question determines which accounting treatment is applied to the transaction: either a secured borrowing or a sale of receivables.
Source: Spiceland, J.D., M.W. Nelson, W.B. Thomas, and J. Winchel. 2023. Intermediate Accounting (11th Edition). McGraw Hill LLC, New York, NY. Chapter 7, p 366.Â
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