# Trust Receipt: Definition, How It Works, and Examples for Businesses

## What Is a Trust Receipt?

A trust receipt is a notice of the release of merchandise to a buyer from a bank, with the bank retaining the ownership title of the released assets. In an arrangement involving a trust receipt, the bank remains the owner of the merchandise, but the buyer is allowed to hold the merchandise in trust for the bank, for manufacturing or sales purposes.

### Key Takeaways

*   A trust receipt is a type of short-term financing that allows companies to take possession of goods before they are paid for, with the bank retaining ownership until the goods are sold and the loan is repaid.
*   This financing structure is often used by companies with cash flow constraints, allowing them to leverage merchandise for sales or manufacturing without upfront capital.
*   Trust receipts involve a significant degree of risk for both banks and businesses; the bank carries credit risk, while the business is responsible for all associated expenses and risk of loss.
*   Businesses engaging in trust receipt agreements must maintain a good standing with their bank and agree on specific terms such as maturity dates and interest rates, with typical loan terms ranging from 30 to 180 days.

## Understanding the Mechanism of Trust Receipts

A trust receipt is a financial document attended to by a bank and a business that has received delivery of goods but cannot pay for the purchase until after the [inventory](https://www.investopedia.com/terms/i/inventory.asp) is sold. In most cases, the company's cash flow and working capital may be tied up in other projects and business operations.

Companies often buy goods from vendors or wholesalers to sell to customers or use in manufacturing. These goods can be purchased locally or imported. When these companies receive the merchandise, they are also billed by the seller or exporter for the goods purchased. In the event that the firm does not have the required cash on hand to settle the bill, it may obtain financing from a bank via a trust receipt.

The bank pays the exporter directly or provides a letter of credit to guarantee payment to the seller. The lender, however, retains the title to the merchandise as security. Even though the bank holds a security interest, the customer can use the goods as they like, as long as they follow the contract terms.

Although the bank has a [security interest](https://www.investopedia.com/terms/s/security-interest.asp) in the goods under the standard terms of a trust receipt, the customer takes possession of the goods and may do what they want with them as long as they do not violate the terms of their contract with the bank. If the customer wants full ownership, they can pay back the loan amount to end the bank's security interest.

## A Typical Trust Receipt Transaction

Under a typical trust receipt transaction, the business has little to none of its own assets invested in the particular goods financed. The bank bears the majority of the [credit risk](https://www.investopedia.com/terms/c/creditrisk.asp) prevalent in the transaction. The business keeps any profits made from the resale of the goods, but also bears the business risk.

If the goods are damaged or lost, the business bears the loss and must still repay the full loan to the bank. In addition, any business expense (such as manufacturing costs, freight, customs dues, storage, etc.) is the responsibility of the business, not the lending institution.  

## Important Considerations for Trust Receipt Transactions

For short-term financing through a trust receipt, the borrower must be in good standing with the bank. The bank and the customer must also agree to the terms of the trust receipt, including conditions such as the maturity date, interest charge, and financing amount.

Trust receipt maturity dates are short-term, usually from 30 to 180 days. At the time of maturity, the customer must repay the loan to the lender with interest stipulated under the terms of the trust receipt. The bank should be repaid by the maturity date or after the goods are sold, whichever happens first. If, after the maturity date, no payment has been received by the bank or the business defaults in paying its advances, the bank could repossess and dispose of the merchandise.

## What Is a Trust Receipt Transaction?

When a company does not have sufficient capital to purchase merchandise, a bank may lend the company the resources to the company, but retain ownership rights, through a trust receipt transaction. Under the terms of a trust receipt agreement, the company agrees to repay the bank once the merchandise has been sold.

## What Is the Difference Between a Letter of Credit and a Trust Receipt?

Commonly used in the trade industry, a letter of credit is issued from a bank that guarantees the payment will be fulfilled and paid to the seller by the buyer. By contrast, a trust receipt is when the bank lends merchandise or goods to a business, but retains ownership of the goods. When the goods have been sold, and payment is made to the bank, the business then becomes owner of the goods.

## What Happens If a Trust Receipt Is Violated?

A trust receipt becomes violated when the borrower fails to return the goods that were lent to them, or if they fail to return the sale of proceeds for the goods as stipulated under the terms of the agreement.