A contra account is a receivable from a customer that is also a vendor, or is otherwise owed money by the borrower. Because that customer can offset what it owes against what it is owed, the lender cannot count on collecting the receivable in cash. Asset-based lenders therefore treat contras as ineligible, usually to the extent of the amount the borrower owes the same party, and sometimes the customer's entire balance. Lenders find contras by matching the AR and AP agings, and a field examiner will look for them. Paying the vendor side promptly and obtaining a written waiver of offset are the main ways to limit the cost.
- What it is
- A receivable from a party the borrower also owes money to
- Why it is ineligible
- The customer can offset instead of paying cash
- Amount usually excluded
- The lesser of the receivable and what the borrower owes that party
- Stricter version
- The customer's whole receivable balance is excluded
- How lenders find them
- Matching AR and AP agings, vendor and customer lists, and payment records
- How to reduce the impact
- Keep payables to that party current; seek a written waiver of offset
Why a customer who is also a supplier is a problem for the lender
An asset-based line lets a business borrow against its receivables because a receivable normally turns into cash when the customer pays. The lender takes a security interest in the receivables, and in a default it can collect them directly. That only works if the customer pays in cash.
Now suppose the customer is also one of the business's suppliers. The business owes the customer money for materials, freight or services at the same time the customer owes the business money for goods sold. The customer has an easy option: instead of paying the full invoice, it nets the two and pays only the difference, or pays nothing at all if what it is owed is larger. Under the commercial code, an account debtor can generally assert against a lender that has taken an assignment of the receivable the defenses and offsets it has against the borrower, at least those that arose before it was notified of the assignment. The lender inherits the receivable subject to the netting.
So the part of the receivable that could be offset is not reliable collateral. Lenders exclude it from the borrowing base as a contra, alongside other standard ineligibles such as aged invoices, affiliate balances and concentration excess.
A contra receivable is not bad. It is simply a receivable the customer may never have to pay in cash.
How much is excluded
Loan agreements handle contras in one of two ways, and which one yours uses makes a real difference.
- Offset amount only. The lender excludes the lesser of the customer's receivable and what the borrower owes that party. This is the more common approach and reflects the actual exposure.
- Whole balance. The lender excludes the customer's entire receivable balance whenever any payable exists to the same party. This is simpler to administer and more conservative, and it appears more often where the relationship is large, the netting is regular, or the lender has seen it abused.
An example. A metal fabricator sells finished parts to a customer that also supplies it with steel. The customer owes the fabricator 300; the fabricator owes the customer 120 for steel. The line advances 85% of eligible receivables.
| Treatment | Receivable from customer | Payable to customer | Ineligible as contra | Lost availability |
|---|---|---|---|---|
| No contra rule | 300 | 120 | 0 | 0 |
| Offset amount only | 300 | 120 | 120 | 102 |
| Whole balance | 300 | 120 | 300 | 255 |
| Offset amount, after paying the steel invoices down to 20 | 300 | 20 | 20 | 17 |
The last row is the practical lesson. Under an offset-amount rule, the contra shrinks as the borrower pays the customer-supplier, so paying that particular vendor promptly, especially just before a certificate date, directly restores availability. Under a whole-balance rule, even a small payable costs the entire receivable, which is why that definition is worth negotiating before signing.
Where contras turn up
Contras are common in industries where companies trade with each other in both directions. Lenders expect to see them in:
- Manufacturing and toll processing, where a customer supplies the raw material and buys back the finished product.
- Distribution, where distributors buy from and sell to one another to fill gaps in stock.
- Freight and logistics, where a carrier also brokers loads, or a broker also hauls for the same partner.
- Construction, where a contractor subcontracts to a firm that on other jobs subcontracts back.
- Recycling, scrap and agriculture, where the same counterparties buy and sell material.
- Affiliated companies under common ownership, which are usually excluded as affiliates anyway.
Contras also arise without a supplier relationship. A customer that has paid a deposit, is owed a rebate, or holds a credit balance from an earlier overpayment can offset those against new invoices. Lenders usually handle deposits and rebates owed to customers through an availability reserve or by treating them as contras, depending on the agreement.
How lenders find them
The borrower is expected to report contras on its borrowing base certificate. Lenders do not rely on that alone. The usual checks:
| Check | What it catches |
|---|---|
| Match AR aging names to AP aging names | Obvious contras, where the same company appears on both |
| Compare customer and vendor master files: addresses, tax IDs, bank details | Related entities trading under different names |
| Review cash receipts for short payments referencing the borrower's own purchase invoices | Netting that is already happening in practice |
| Read customer and supplier contracts for offset or netting clauses | A contractual right to offset, even if not yet used |
| Look for customer deposits, rebate accruals and credit balances | Amounts customers could offset without being suppliers |
The field exam is where undisclosed contras are most often found. A business that has been reporting a contra customer as eligible will see the certificate recalculated, possibly retroactively, and it may find itself in an overadvance. Because the certificate carries the borrower's representations about eligibility, an unreported contra is also a reporting problem, not only a borrowing base one.
How to reduce the impact
A business with meaningful two-way trading relationships has several ways to keep contras from eating into availability.
- Keep payables to customer-suppliers current. Under an offset-amount rule, the ineligible equals what you owe. Paying those vendors on time, and before certificate dates, shrinks it.
- Stop netting. If the business and the counterparty routinely settle by netting, move to paying each other gross. Netting proves the offset risk is real.
- Obtain a waiver of offset. Some lenders will count the receivable if the customer signs a letter acknowledging the lender's security interest and agreeing to pay invoices in full without offset. Not every lender accepts these, and not every customer will sign, but for a large relationship it is worth asking.
- Negotiate the definition. Ask for the offset-amount version rather than the whole-balance version, and for a de minimis threshold so small incidental payables do not disqualify a large customer.
- Disclose early. Showing contras on the first aging the lender sees, with the payable side next to them, lets the lender size the line correctly from the start rather than cut it after an exam.
Contras interact with other rules. A large customer-supplier may also be subject to a concentration limit, and if it pays slowly, to cross-aging. The concentration test is usually run last, on the receivables that survive the other exclusions, so estimate availability in the order your agreement sets out rather than netting each rule against gross receivables. For the full list of exclusions, see eligible vs ineligible receivables.
What to bring to a lender
The documents that let a lender assess contras up front are the same ones it asks for on any line of credit: an AR aging by customer with days outstanding, an AP aging, the balance sheet and P&L, a year-to-date P&L, and a debt schedule showing existing liens, plus an inventory report if inventory will be in the base. Flag any company that appears on both agings, and note any netting arrangements or customer deposits.
A lender package that shows each contra with the payable beside it lets lenders size the line correctly before the field exam, rather than cut it afterward. That matters when comparing offers: Transparent's book holds 235 lenders that write asset-based loans and lines, and their contra definitions differ. See what lenders look for in an AR aging and how a borrowing base works.
Common questions
- Does a contra make the whole customer ineligible?
- Only under a whole-balance rule. Most agreements exclude the lesser of the receivable and what the borrower owes that party, so a customer with a large receivable and a small payable loses only the small amount. Check the definition in your agreement.
- What if the customer has never offset?
- Lenders still treat the overlap as ineligible, because the right to offset exists whether or not it has been used. A signed waiver of offset from the customer is the usual way to address it, where the lender accepts one.
- Are customer deposits treated as contras?
- Often. A customer that has prepaid can apply the deposit against new invoices, so lenders either exclude the matching receivables or hold an availability reserve for deposits. The agreement says which.
- Do contras matter in factoring as well?
- Yes. Factors face the same offset risk and typically refuse to buy, or reduce the advance on, invoices to customers that are also suppliers. See factoring vs asset-based lending for how the two differ.