Creditors and debtors

A creditor is an individual or business that has lent funds to a business and is owed money. A debtor is an individual or business who has borrowed funds from a business and so owes it money.

There is a cost in borrowing funds. Money borrowed from creditors is paid back over time, usually with an additional payment of interest. Interest is the cost of borrowing and the reward for lending.

Creditors provide loans to debtors who acquire assets and collateral to pay back interest to the creditors

Creditors often ask for security before lending funds. This means sole traders and partners may have to offer their own house as a guarantee that monies will be repaid. A company can offer assets, eg offices as collateral.

The type of finance chosen depends on the type of business. Start ups and small firms are considered very high risk and find it difficult to raise external finance. The only source of funds might be the owner's own savings, retained profits and borrowing from friends. Companies can issue extra shares to raise large amounts of capital in a rights issue.

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