What are differences between creditors, debtors, crediting and debiting?

February 14, 2010

1. Debtors versus creditors

Creditor is a buyer of a bond or a note, or in other words, a lender or an investor.

Creditors are governments, mutual funds, pension funds, and financial institutions from around the world. Talking about corporations, it is important to note that creditors are not shareholders: that is, creditors are not the owners of a corporation; thus, creditor claims are classified as a liability, not equity, on the debtor's balance sheet.

Debtor is an issuer or a seller of a debt security (bond, note). In other words, debtor is a borrower, who owes money to the creditor (i.e. lender). Debtors are private corporations, the federal government, municipalities, etc.

Debt security markets:

When new debt securities are issued by a debtor, they are offered to creditors on the primary markets. Following the initial offering and sale, bonds are sold and bought on secondary markets. There is no central exchange place for bond trading (i.e. buying-selling bonds); nevertheless, bonds are usually traded in organized security markets, which are known as "over-the-counter" (OTC) markets. In other words, debt securities are traded through a dealer network: dealers negotiate with one another by phone and over computer networks. Many debt securities are traded by investment banks (i.e. bond dealers), who "make market" for specific debt issues. Some corporate bonds are traded on security exchanges (i.e. an exception).

Bonds versus notes:

An agreement between a debtor and creditor is called a bond or a note.

A bond is a formal contract according to which the debtor promises to repay the creditor the bond's maturity value and interest at fixed intervals (usually semi-annually).

Bonds are usually issued in denominations of $1,000, $5,000, or $10,000. Bonds are often issued by corporations (corporate bonds), U.S. government (Treasury bonds), and municipalities (municipal bonds).

A note is a written promise to pay a certain amount of money at a certain date. A note is a less formal agreement than a bond: the terms of a note are usually specified on the note.

Notes can be classified as a current or noncurrent (due within a year or more) liability on the balance sheet of the issuer (debtor). Long-term notes payable and bonds payable comprise long-term debt. Notes payable are issued to borrow from a bank, to refinance accounts payable, or to make a purchase.

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