What is accounts receivable pledging?

Accounts receivable pledging is when you use your accounts receivable asset as collateral on a loan.

When accounts receivable are used as collateral on a loan, the lender usually limits the amount of the loan to either:

• 70% to 80% of the total amount of accounts receivable outstanding; or
• A percentage of the accounts receivable that declines based on the age of the receivables.

The later alternative is safer from the perspective of the lender (and is therefore more commonly used), since it allows for more specific identification of those receivables least likely to be collected.

For example, a bank may not allow any accounts receivable to be used as collateral if they are more than 90 days old, 80% of all receivables between 30 and 90 days old, and 95% of all receivables that are 30 days old or less. The lender may also specifically exclude any receivables for which the company has granted unusually long payment terms.

Under an accounts receivable pledging arrangement, the company subject to the arrangement completes a borrowing base certificate following the completion of each reporting period, and forwards the signed certificate to the lender. The lender may also require that a copy of the month-end accounts receivable aging report be forwarded along with the certificate, in case the lender wants to trace the amounts on the certificate back to the underlying accounts receivable detail.

The borrowing base certificate itemizes the amount of accounts receivable outstanding at the end of the reporting period into the age brackets specified by the lender, calculates the maximum amount of borrowing allowable based on the amount of accounts receivable, and states the amount actually borrowed. The lender uses this certificate to monitor the amount of collateral available, and whether it needs to adjust the amount of debt available to the company.

Under a pledging agreement, the company retains title to and is responsible for collecting accounts receivable, not the lender. Even though the lender now has an interest in the receivables, it is not necessary to notify customers of this interest.

Related Topics

Factoring
Line of credit
Receivables securitization
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