“Lenders” and “creditors” are an essential part of the economy. The terms represent the same underlying idea. And yet, a small survey of my colleagues revealed that some consider them opposites. It’s easy to see why: though they represent the same concept, we often use them in opposite situations.
The purpose of this article is to clearly distinguish between lenders and creditors, to provide examples of each, and further explore the parallel topic of debtors vs creditors and how they show up on a company’s financial statements.
Difference between Lender and Creditor
The words “lender” and “creditor” both refer to an entity, such as a bank, that supplies money as a loan in exchange for loan interest.
The difference is that the word “lender” designates a supplier of money in general, while “creditor” designates a provider of money in its relationship to a specific borrower. For example, when a company takes out a loan from a bank, the bank is its “creditor.” If the company has no debt, it has no “creditors,” but the bank is still a “lender” in its own right.
Moreover, earning interest is a key part of the creditor and lender role. An entity that supplies money without charging interest is not a “lender” or “creditor.” Instead, we refer to it as an investor.
Examples of Lenders
Although the most common type of lender is a commercial bank, there are four other prominent types:
- Banks – big, national, technologically-advanced, and strict credit entities
- Credit unions – smaller, local, customer-oriented, less expensive, and personable credit entities
- Online lenders – lenders without brick & mortar branches and ATMs who sell financial instruments online
- Peer-to-peer lenders – individuals lend money to other individuals via online platforms
- Crowdfunding – individuals pool money for a specific project in exchange for a cheaper version of the product once launched
Of these five types, banks and credit unions are by far the most common. They are the entities from which you could get a personal loan or mortgage. However, they don’t exclusively serve individuals. They also provide loans to companies and other banks.
Online lenders are less regulated. In general, they provide small personal loans that come with high interest rates, since they bear a higher risk than old institutional banks and credit unions.
Peer-to-peer lenders also often fall into the online lender category, but rather than a central lender behind the online platform, there are many individuals who provide small loans amongst themselves. These loans are also considered high risk because each lender has very little resources to lean back on.
Crowdfunding is a lender in my definition, but some dispute this classification. Similar to peer-to-peer lending, crowdfunding works by allowing individuals to invest in others. The difference is that crowdfunding provides money to individuals so they can launch a product or service, not for personal uses.
Additionally, rather than receiving interest on the money they provide, crowdfunders usually get a major discount on the product once it launches. In some cases, they get the product for “free.”
Investors are Not Creditors or Lenders
As we noted earlier, it’s important to remember that entities who provide money and do not require interest payments are not lenders. In the case of companies, these entities usually become shareholders in exchange for money, and thus retain rights to dividends. We call them investors.
Examples of Creditors
Examples of creditors include the same entities as lenders — banks, credit unions, online lenders, peer-to-peer lenders, and crowdfunders.
Remember, creditors and lenders are just words we use in two different situations to describe the same underlying idea: a supplier of money that expects interest payments in return. Creditor is the word we employ once the lender provides the loan and the relationship begins.
This means that these example lenders are only considered creditors in the context of their relationship with a specific borrower.
Types of Creditors
Creditors fall into two types: lenders and traders. So far we’ve only covered lender creditors. The reason for this is that they are the most publicized and well known. Trade creditors are a special kind of creditor that only exist in business-to-business relationships.
They defy our original conception of creditors as entities that provide money and expect interest in return. Let’s define them now and show how they’re different.
Trade Creditors (Exception)
Trade creditors are suppliers that provide goods or services to a company but have not yet been paid. The reason we call them creditors is because the company has a financial obligation to pay them an amount of money in exchange for the goods or services.
They’re different from lending creditors because the money owed by the company is not interest. It’s the price of the goods. However, in some cases the company can be charged interest on the outstanding sum if it takes too long to pay it, although this must be contractually provided for in advance.
Trade creditors are important when we talk about a company’s financial statements since they can have a strong impact on the company’s worth. We’ll briefly cover this below.
Lending creditors
Lending creditors are, simply, those that provide money in exchange for interest payments. The “good” they provide is the principle amount of the loan.
Debtor vs Creditor
Debtors are the opposite of creditors. Debtors are to creditors what borrowers are to lenders. “Debtor” is the name we give to borrowers when they enter into a relationship with a lender. In a sentence, a debtor is an individual or entity that actively owes interest on a loan it has with a creditor.
Just like creditors, debtors exist as two types: lending debtors and trade debtors. A trade debtor is a company that owes money to a supplier who has provided goods or services but not yet been paid. Once the company pays the outstanding sum, it is no longer a debtor to the supplier.
These concepts may seem self-evident, but it’s important to master them. Once we start to speak about debtors and creditors on the financial statements, it’s easy to get lost in the details.
Debtors and Creditors on Financial Statements: Balance Sheet
A company is at any point in time both a trade creditor and a trade debtor. The suppliers with which it is a trade debtor are its creditors, and the partners with which it is a creditor are its debtors. A little tricky, huh? Let’s look at a table to concretize these labels.
| Relationship Direction | Supplier | B2B Customer |
|---|---|---|
| Them to You | Creditor | Debtor |
| You to Them | Debtor | Creditor |
The key point here is that creditors and debtors are about business relationships. They exist only insofar as two companies have a financial relationship.
Trade Debtors and Creditors on the Balance Sheet
So what do these relationships look like on the balance sheet? Now that we understand the names, it should be relatively easy to see whether they are liabilities or assets. Let’s look at an example.
Imagine you own a wholesale watch company called Batch Watch. A supplier sends you an invoice with a value of $100 for metal you use to make watch bands. That same day, you send an invoice to a retail partner in the value of $200 for watches you delivered. In this case, your balance sheet will look like this:
| Assets Cash… xxx Accounts receivable (aka trade debtors)… $200 Inventory… xxx Long term assets… xxx | Liabilities Accounts payable (aka trade creditors)… $100 Long-term liabilities… xxx |
Remember, the supplier creditor lists you as a debtor on its balance sheet. Likewise, the retail partner debtor lists you as a creditor on its balance sheet.
Lending Creditors on the Balance Sheet
Lending creditors are accounted for as long-term liabilities on the balance sheet, just like any other loan due in more than one year. Following convention, only the current portion of the loan repayment schedule is included as a current liability.
Imagine that we take on a loan for $1,000 that’s payable over two years with interest of $200, totaling $1,200 owed to our creditor. Our yearly payments are $600. This means that half of the loan is long-term, while half is short term. Our balance sheet would look like the following:
| Assets Cash… $1,000 Accounts receivable (aka trade debtors)… $200 Inventory… xxx Long term assets… xxx | Liabilities Accounts payable (aka trade creditors)… $100 Current amount of long-term liabilities (aka lending creditor)… $500 Long-term liabilities… $500 |
You may be wondering why only $1,000 is shown when the loan total is $1,200. The reason is that interest payments do not show up on the balance sheet unless they are accrued (i.e not paid on time). Assuming Batch Watch makes all of its loan payments on time, interest is only recorded on the income statement. In this example, the yearly income expense would be $100.
This is how lending creditors appear on the financial statements.
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