Take a look at the last invoice you received from a business larger than yours, and the chances are that the fine print at the bottom of your invoice warned you about their late payment fees. You probably paid on time and never had to worry about incurring late payment interest, but it still makes sense for companies to have a policy in place that protects them against customers who refuse to pay when the time comes to settle up.
Now consider your trade business for a second. You’re fortunate if you haven’t had to deal with customers who intentionally delay payment until the last possible moment. But there’s always the chance you’ll get a client who stalls past the due date of their invoice, and you need to be ready when they do.
There could be any number of reasons why a customer has delayed payment of their invoice or outright refused to pay. They could be struggling to make ends meet or maliciously withholding payment to right some wrong they think you’ve committed, even if you’ve done everything to make the relationship as positive as possible.
Regardless of why they’ve chosen to delay payment, you need to equip your business with the right tools to prevent customers from giving you the runaround and recoup your losses if they draw out the process and keep you from getting paid for as long as possible.
This article will delve into the details of late payment fees and how they safeguard your business’s financial stability should customers decide they don’t want to fulfil their financial obligations and pay you for your work.
We’ll start by discussing what late payment fees are before delving into whether you should charge them, why, and how to do so effectively and ethically.
So, What Are Late Payment Fees Anyway?
A late payment fee refers to a broad scope of financial penalties that are placed on a customer when they fail to make a repayment on a debt they owe to your business. It could be a flat amount that increases as time goes on (for example, every day past the due date of an invoice incurs a $5 penalty). Or it could be a percentage increase in the amount owed, similar to an interest rate charged by a bank for an outstanding debt. Regardless of how you structure a late payment fee, the point is to provide a negative stimulus that pushes customers to settle up or risk paying more money the longer they delay.
Now let’s explore the ethics around how to manage late payments.
Should You Charge Late Payment Fees?
In this section, we’ve chosen to use the word ‘Should’ instead of ‘Can’. In Australia, it’s completely legal to charge a late payment fee on trade work. Whether you should be is what we’re here to answer, and the best advice we can give is to use common sense.
Late payment fees should only cover the reasonable losses your business will sustain by not having access to the money a client owes you by the date you’ve agreed. If a late fee is unreasonable or purposefully made excessive to extort money from your clients, then it’s obvious that you shouldn’t be charging it. Not only will clients refuse to pay an over-the-top late payment fee, but it will also damage your professional reputation and push the customers who pay on time away from dealing with you on principle.
With this in mind, it can be helpful to take a step back and think of a late payment fee as less of a penalty and more of a late payment offset against future financial uncertainty. We’ll discuss developing a late payment fee that balances client welfare with covering your bases later in this article. But for now, we’ll run through a few reasons why your business should charge a late payment fee, so you can decide whether it’s worth working one into your trade business operations.
3 Reasons that justify charging late payment fees
1. To keep your cash flow healthy
A healthy cash flow helps grow your business in the good times and safeguards your business when times are tough. As we mentioned earlier in this article, a late payment fee helps solidify your financial security by incentivising customers to pay you sooner rather than later.
Most clients will never need to worry about what happens if they miss their invoice deadline, but your bottom line will thank you when an invoice runs overdue, and you have a system in place to limit your losses.
2. To establish yourself as a serious professional who is running a business.
A key part of running a successful trade business is setting proper standards and expectations with clients. Every business relationship should be founded on respect. By including a late payment fee in your fine print, you can avoid the perception that clients who don’t pay you on time can repeat this behaviour with no consequences.
3. To force bigger businesses to pay you on time.
Working within the trade industry often means taking on contract work for companies far larger than you are. As a smaller player, you need to ensure businesses that don’t have your best interests at heart are still compelled to pay you on time, and a late payment fee is the best way to do this. This is especially important if you aren’t the only contractor a larger business deals with. If you have strict payment policies in place, chances are they’ll move your payment to the top of the list to avoid headaches.
Now you know how to justify your late payment offset, it’s time to make sure that charging a fee for late payment is the right decision.
3 Considerations you need to make before charging a late payment fee
- Have you fulfilled your end of the agreement and completed the work required?
Sometimes you and a client have very different ideas about what constitutes a job well done. You may think you’ve fulfilled your end of the bargain, but if a customer doesn’t share the same opinion, it’s unlikely that they will part with their hard-earned money easily.
Before you charge a late payment fee on work a client refuses to pay for, it’s important to equip yourself with proof that you did the job to the letter.
Suppose there has been a misunderstanding and the work you completed hasn’t matched what your customer expected. In that case, adding a late payment fee to the situation will only serve to aggravate customers and make it even more unlikely that they’ll pay you.
We advise always checking that your work fulfilled the estimate before you invoice. If the work matches the brief, chances are your customer will be pleased anyway, and you can expect swift payment after the invoice is sent out.
- Did you make your clients aware of the fee?
Nobody likes surprise charges, especially when there was no indication that going over the invoice due date would incur one in the first place. As a rule of thumb, don’t include any late payment fees without making it very clear to customers that a late payment clause exists and will be enacted if they fail to pay before the due date indicated on their invoice.
It can also be helpful to specify that a late payment fee exists in any other correspondence you have with a customer, be it written, spoken over the phone, or in person. You can add details of the fee to the fine print of an invoice, just make sure that it’s easy enough to read and isn’t placed where customers will easily miss it, or you might face serious backlash for making things needlessly unclear.
- Is a softer touch the better option in this scenario?
Having a late payment clause in place doesn’t mean you have to use it every time a customer pays their invoice late. Your clients are people just like you, and not every overdue invoice is the product of malicious intent. A customer could be going through tough financial times or experiencing issues in their personal life, and the last thing they need is someone knocking on their door asking for money. Take the time to reach out just before an invoice runs due and check in with your customers to see how they’re going. By evaluating each situation individually and engaging customers with open hands, chances are that you can reach an agreement without needing to enforce your late payment policy and risk ruining a perfectly good business relationship.
You can also waive a late payment fee at your discretion, which can help rebuild a tarnished relationship with a client and make them more likely to pay you the original sum in situations where they otherwise wouldn’t.
What Should A Payment Clause Include?
Ideally, your payment clause should be drafted by a legal professional, but we’ll include a basic summary of what goes into one, so you know what to look for when creating it.
Your late payment fee clause should include:
- An outline of your client’s obligation to pay their invoice before the due date
- How long the client has to pay an invoice from its issue date
- The cost of the late fee or how it is accrued as interest against the original sum
- Any additional terms or conditions surrounding your late payment fee
Note: A lawyer should approve all clauses relating to payments or finances before use. Don’t attempt to copy another business’s late payment fee clause without professional legal guidance.
How Much Should You Charge?
As we outlined earlier in this article, the amount you charge as a late payment fee should be reasonable and chosen to cover your losses rather than turn a profit.
Whether you choose a flat fee for missing an invoice due date or opt for an accrued interest model, we recommend settling on a number that doesn’t exceed 5-10% of the outstanding amount owed.
You can charge more, but you risk client backlash against a late payment fee that many clients will see as excessive or unreasonable.
What If Clients Refuse To Pay?
So, you’ve done your due diligence and let a client know their invoice is overdue, but they still refuse to pay. If your late payment fee hasn’t been enough to deter a customer from ignoring your invoice, then you have a few options regarding what you do next.
If you haven’t finished the job yet, stop working.
Many trade businesses ask for part payment mid-way through completing a job for a client. If your business follows a similar process, you’re under no obligation to continue working for the customer until they settle their outstanding invoice. The more work there is left to do on a project, the more leverage you have, and it’s important to make it clear that until you receive payment (plus any accrued late payment fees), you aren’t going to complete the job.
If emails and phone calls fall on deaf ears, send a letter of demand.
Sending regular reminders to a client when their invoice runs overdue is often enough to get a response. If your repeated attempts to make contact is met with silence, it might be time to step up your game and send something a little more serious.
A letter of demand is a formal document that lays out all the details of the obligation a client has made and what consequences they face if they once again fail to meet their end of the deal.
Many trade businesses send a letter of demand as a final step before seeking legal action (more on this in the next section), so make sure to include the following:
- The claim you’re making against your customer
- The amount of time they have to settle their debt to you
- What happens if they don’t by the date you’ve indicated
If all else fails, you can take it to court.
Getting a lawyer and taking your case to court should be the last option, and it’s only worth your time if the amount your client owes you is substantial enough to cover the costs of legal aid. Don’t forget that going to court isn’t just costly; it also saps a lot of your time while the case is ongoing. You can’t work if you’re in court, so take the time to consider whether putting your dispute in front of a judge will hurt you financially in the long run, no matter what.
In summary, late payment fees are a great way of protecting your trade business from the financial losses that can be incurred when a customer fails to pay their invoice on time. However, care must be taken to ensure that your late payment offset doesn’t ruin relationships with your clients. Our advice is to do what’s best for your business, but always take the time to understand why a customer has failed to make an invoice payment, and then adjust your strategy to meet the circumstances.