It doesn’t matter if you just started your business, or you’ve been around for years. There are basic terms and definitions that every entrepreneur should know.
Not knowing the basic definitions of common invoice payment terms can cause confusion between you and your client, set the wrong expectation and (even worse!) keep you waiting longer than you need to get paid.
Following a simple set of best practices for invoice collection can get you paid faster, and sometimes, without ever following up with your client. Even with a contract, collections can be tricky and messy.
Collections are the difference between making a living and working on a hobby. Not being able to confidently predict when a payment is going to hit your bank account can put you in a defensive, vulnerable position.
A report published by PYMNTS shows that 41 percent of small businesses say that collecting on invoices is still their greatest challenge, and more than one-third say that it takes clients more than a month to pay.
Before you can develop a strategy for collections, you should know some of the most common terms and definitions related to invoice payment. We’ll go over the definition of net 30 and other common invoice terms, so you can apply the right techniques to your invoicing processes and eliminate unnecessary waits.
Net 30 or Net D Payment Terms
You may see net 30 written as “net 30 days.” In this case, “net” refers to the total amount due after all discounts, and the number (represented by net-D) is the total number of days the client has to pay after services are performed or goods delivered.
For example, if you perform a service for a client on July 1, and the invoice states “Net 30,” the client is expected to pay in full on or before July 30.
You’ll probably find that net 30 invoicing is the most common, but some industries even have net 60 or 90 days.
Remember, unless your terms are net 0, you are essentially providing free credit to your clients. Something to keep in mind: do banks allow you to borrow money interest free for 60 or 90 days?
You might not want to tell a client that you can’t wait 60 or 90 days to get paid, especially if you’re just starting out. Not everyone can afford to say no to money. You don’t want customers thinking that you’re so small that you can’t keep your operations open for that long without payment.
It’s not enough to be honest with your customer. You have to be honest with yourself. If you need the money sooner than 30 days, you need to make that clear. If they are a good client, but they aren’t flexible, there are other ways to get your money without jeopardizing your relationship with your client. We’ll look at one example below.
3% 10 Net 30 or 3/10 Net 30 Payment Terms
Businesses can encourage faster payments by sweetening the pot. A common reward for faster payments is to offer a discount when the invoice is paid in full by a specific date before the final due date. This is where terms like “3% 10 Net 30” or “3/10 Net 30” come in.
In both cases, the customer is expected to pay his or her invoice in a 30-day window. However, the “3” represents a discount of 3%, and the “10” represents the window in which the customer must pay to receive the discount. With these examples, the client must pay within 30 days, but if he or she pays within 10 days, he’ll get 3% off the bill.
Like the “net” payment terms, businesses can customize their discount offerings. For example, if an invoice says “2% 15 Net 30,” the company is offering a 2% discount when the invoice is paid within 15 days, but the full amount is due if the customer waits until days 16 to 30 to pay.
Payment Due Upon Receipt
You do not need to extend credit to your clients at all. As an alternate option, you may elect to note “payment on receipt” on invoices. This means payment is expected as soon as the customer receives your invoice or goods/services are delivered.
Even if you are offering credit to your clients by waiting more than a day to get paid, you can still put incentives in the contract to encourage the client to pay on time.
As a consumer, you’ve seen this in action with services you subscribe to. If you miss your cable payment, you might be charged a late fee. In your contract, you agreed to this schedule of fees. As a business owner, you can do the same for you clients. However, you must make it clear that you intend to do so beforehand and spell it out in the contract.
Even if a customer misses a payment, it’s not professional to suddenly charge a late fee when that wasn’t agreed upon earlier.
The amount of interest you charge is entirely up to you. The amount should provide motivation but not potentially damage a long-term relationship. You’ll also have the option of compounding interest on a daily or monthly basis. If you’re using accounting software, it will handle the math for you and make the process of adding interest simpler.
It’s also worth noting that having a late-payment penalty does not necessarily mean you have to assess one. You’re free to waive your fees at any point in the interest of customer service.
When your customers have recurring demands, you can set your accounting software to generate invoices at regular intervals. Doing so makes it easier to predict cash flow.
Payment in Advance (PIA)
It’s common in some industries for clients to pay some of their costs in advance. This is more common when estimates are used. For example, if a contractor says his total fees will be $1,000, he may request 10 or 15% of the estimate ($100-150) in advance to cover supplies. Depending on your industry, you may also be able to offer customers a discount for paying an invoice in full in advance.
Terms of Sale
We’ve covered a lot of important information, but how do you use it? More importantly, how do you make sure your customer knows your specific payment requirements? You’ll do this through your terms of sale (TOS), which should appear on estimates, invoices, your website, and other customer-facing communications. Again, accounting software can provide you with stock TOS, but it’s best to customize yours and run it past an attorney before applying them. Your TOS should cover:
- The scope of your work
- Your obligations and timelines
- Any promises you’re making
- When and how clients are expected to pay
- Who is responsible for duty fees and taxes
- What penalties will occur if you or the client does not fulfill obligations
- How dispute resolution will be handled
Invoice Financing and Factoring
While strong invoicing practices can help reduce the gap between completing work or delivering goods and getting paid, it can be complicated and time-consuming. Unfortunately, it may also not be enough to solve your cash flow issues.
Invoice financing and factoring companies help B2B companies by providing them with immediate payment for their open invoices. Factoring companies purchase the invoices and handles the full invoicing process, freeing the business to focus on its core tasks without the burden of billing, follow ups and collections.
Remember, that with factoring, your terms are always Net 1.
If invoice factoring sounds like it could be a good solution for your cash flow issues or delinquent payments, contact Triumph Business Capital today.