How Can a Business Minimise Bad Debts? 6 Controls Before Credit Is Extended

Bad debt is priced on the day credit is granted, and the collections department inherits a decision it had no part in making. Every control worth having operates before the first delivery; after it, the business is no longer managing risk so much as recovering from it.

The six controls below are ordinary. None requires a lawyer to install, though several work better when one has read the forms, and together they answer the question of how a business can minimise bad debts in the only period when the answer is cheap.

1. The Credit Application Establishes Who the Customer Is

A surprising share of uncollectible accounts were extended to a customer whose legal identity nobody confirmed. The shop sign said one thing, the email signature another, and the entity that signed the purchase order, if any entity signed it, was a third.

A written credit application fixes those facts. It records the customer's exact legal name, its form (corporation, limited liability company, sole proprietorship), its state of organization, its principal office, its bank and trade references, and the signature of someone with authority to bind it. The name matters for reasons beyond courtesy. If the seller later takes a security interest, UCC section 9-503 requires a financing statement against a registered organization to use the name stated on its public organic record, which is the filed charter and not the trade name painted on the truck.

The application should also contain the customer's written consent to credit inquiries and its agreement to the seller's payment terms. A seller whose terms first appear on an invoice has already given up something.

2. A Business Credit File Shows How the Customer Has Treated Others

Dun & Bradstreet's PAYDEX score runs from 1 to 100 and is calculated from trade experiences, which are payment records submitted by suppliers and vendors. D&B describes 0 to 49 as indicating a high risk of late payment, 50 to 79 moderate risk, and 80 to 100 low risk. Its paid company reports also list legal events, including bankruptcies, judgments, liens, lawsuits, and UCC filings.

The last item deserves its own search. In New York, a search of the Department of State's UCC records for filings against one debtor costs $25, and it shows who already holds a lien on the customer's assets, which is a fair description of who will be paid ahead of an unsecured supplier.

Since March 1, 2026, the SBA no longer screens its 7(a) Small loans with the FICO Small Business Scoring Service score and instead requires lenders to use their ordinary commercial credit analysis. A supplier extending thirty day terms is not an SBA lender, and the rule does not bind it. The instinct behind the rule, that one number is a thin substitute for reading the file, travels well.

3. A Personal Guaranty Places a Person Behind the Entity

A limited liability company that stops paying is, in most cases, the only party the seller can pursue. Its members are shielded by the entity they formed, and that shield is the reason they formed it.

A personal guaranty from the owner changes the arithmetic, and the drafting of that guaranty changes it further. The distinction appears in its cleanest form in the Uniform Commercial Code's treatment of negotiable instruments. Under UCC section 3-419, a party who unambiguously guarantees collection rather than payment is obliged to pay only after the creditor has tried and failed against the principal debtor: execution returned unsatisfied, the debtor insolvent or in an insolvency proceeding, the debtor beyond service of process, or payment otherwise apparently unobtainable. A guarantor of payment, by contrast, owes the debt in the same circumstances as the debtor, without the creditor first pursuing the debtor at all.

Most trade credit guaranties are standalone contracts rather than notes, so section 3-419 illustrates the distinction rather than governing it; the wording of the guaranty itself does the work. A supplier that wants a payment guaranty should say payment, in those words, and should know that an owner asked to sign one will read it more closely than the credit application.

The guaranty is the one document in the file that the customer's owner reads as if it were addressed to them personally. It is.

A seller that demands guaranties from every account will lose some accounts (sellers who regard every lost customer as a failure of the sales team tend to overlook which customers declined), and there are industries where the request is unusual enough to end the conversation, though in those industries the other controls on this list carry more of the weight.

The guaranty also should be signed by the individual in an individual capacity, not over a corporate title, because a signature above the words President of the company can be read as the company guaranteeing itself.

4. A Deposit Cannot Default

Every other control on this list reduces the chance of loss. A deposit, a progress payment, or a milestone invoice reduces the amount that can be lost, and it does so without any help from a court.

Construction suppliers and contractors hold a further protection. Under New York Lien Law section 3, those who furnish labor or materials to improve real property with the owner's consent have a lien, and section 10 generally allows a notice of lien to be filed within eight months after completion, or four months for a single family dwelling. The window is fixed by statute.

5. A Security Interest Turns the Invoice Into a Claim on Collateral

An unsecured supplier waits in line with every other unsecured creditor. A supplier that takes a security interest in the customer's inventory or receivables, and perfects it, stands ahead of them.

Perfection for most business collateral is a filing. In New York, a UCC-1 financing statement filed electronically with the Department of State costs $20, or $40 on paper. The place of filing follows the debtor's location, and under section 9-307 a registered organization organized under a state's law is located in that state; a Delaware limited liability company doing all of its business in Brooklyn is filed against in Delaware. Priority among perfected interests generally runs by time of filing or perfection under New York UCC 9-322(a)(1), which rewards the seller that files before it ships.

A financing statement lasts five years and lapses unless a continuation statement is filed within the six months before it expires.

6. A Credit Limit Is a Decision Made Once and Revisited

A limit sets the largest loss the business has agreed to accept from one customer, and a limit that rises every time the customer asks has stopped being a limit. Accounts that drift past terms, even by a week, are the earliest signal available, and the first unanswered reminder is the moment to pause new orders.

The accounting side follows. Under section 166 of the Internal Revenue Code, as the IRS explains in Tax Topic 453, a business bad debt is deductible only if the amount was included in income, and section 166(a)(2) allows a deduction for a debt recoverable only in part, up to the part charged off within the year. A cash method business, which never booked the receivable as income, has nothing to deduct.

When the Business Is the One That Cannot Pay

A company that has absorbed several bad debts in a year often fills the hole with a merchant cash advance, and the advance is then debited daily from receipts the business was already short of. Delancey Street works on that obligation. It is a debt settlement company, not a law firm, and it neither gives legal advice nor collects receivables for anyone; its review of a business's advance contracts is free and confidential, with legal questions passed to independently licensed counsel. Credit discipline is a habit of saying no at the moment yes is easiest, and it protects a business from its customers and, on some days, from itself.