A credit application is a great way to avoid granting credit to bad risks–but only if it asks the right questions and all the blanks are filled in. The application is given during “the honeymoon period,” the friendliest period, so this is the best time to ask important, revealing questions. Credit is based on trust, but trust is more reliable when you get the right answers on a well-designed credit application.

Make sure your credit application asks:

 The legal form of the prospect’s business. Are you dealing with a corporation, partnership or individual? If it is a corporation, it’s crucial to know the correct legal name-down to the last comma and period. (See below for details.) Check with the state to determine the correct corporate name and to see if the corporation is “in good standing”-that its corporate charter is still on the state’s active files.

 If it is a partnership or sole proprietorship, get each owner’s home address and SSN (if the customer goes out of business, you need to find the owners quickly to ask for payment), whether each owner previously owned another firm and, if so, what happened to it. You may want to ask if the firm is adequately capitalized, rather than depending only on credit reports.

• Who at the customer’s firm has authority to sign contracts, place orders and sign checks? This may or may not be the same person. Knowing who can sign checks allows you to telephone the right person for payment right away.
• Two creditors currently extending the greatest credit and permission to contact them to confirm that payments are being made according to terms. Much more effective than just asking for “credit references”, (this allows the prospect to be very selective). Make sure that your application includes a statement giving you the right to contact the references.
• The date on which the prospect’s business began. Unfortunately, few applications ask this. Because a large percentage of businesses fail in the first few years, the firm’s age is important. How quickly would you extend $100,000 in credit to a firm that opened last month? Professor Bruce Kirchoff, New Jersey Institute of Technology, reports that about 18% of all new firms fail during the first 8 years, 26% survive only because of a change in ownership and 28% voluntarily go out of business without losses to creditors.
• “Was this firm previously part of another company?” This wording is important. A “yes” should prompt an investigation into why the separation occurred. Sometimes, profitable companies spin off an unprofitable division in a way that prohibits the parent from being called for payment.
• “Is a written purchase order required?” If it is, your firm can comply from the outset rather than arguing with the customer later.
• A statement making the person signing the application liable for lying. For example: “I warrant that the foregoing information is true and correct, and realize it will be relied upon in the granting of future credit.” If the application is signed personally and turns out to be materially (seriously and substantially) false, you may be able to pursue the signer personally even if the credit your firm granted was to a corporation.

     Helpful additions to your credit application include:

• A statement of policy that lets you asks for a new application each year. For example: “It is the policy of our company to require an update of all credit applications every year.” By referring to the update in print as a company policy, you lay the groundwork for requesting a new credit application next year without sounding hostile or suspicious. Base the frequency of your requests for updates on your industry’s common practice.
• A section on timely payment service charges and late fees. Put it at the bottom of the credit application, just before the signature. For example:

  1. If granted credit, I/we agree to pay all invoices within 30 days of the invoice date.

  2. It is agreed that a service charge of 1-1/2% per month may be charged on all delinquencies   (18% per year), or the highest rate per­mitted by prevailing state law, whichever is lower.

  3. It is agreed that my/our account may become C.O.D. if I/we fail to pay within stated terms.

  4. My/our financial condition is satisfactory, and I/we are currently paying debts generally as they mature. There are no outstanding judgments against the firm at the present time.

  5. To conform to your company policy, we agree to cooperate in submitting a new credit application each year.

  6. The person signing this application guarantees that the informa­tion contained in it is true and correct to the best of his/her informa­tion and belief, and realizes that the application will be relied on in the granting of future credit.