How to reduce bad debts and late paying customers

Business owner managing late payments from customers
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    Cash flow is the lifeblood of any business, so when your company experiences late payments and bad debt, the effects can be very detrimental. A lack of cash can significantly disrupt business operations, and regular late payments can impact long-term financial health. Unfortunately, late payment is experienced by nearly all business owners at some point, but how you navigate the situation can make all the difference.

    To avoid late payment, it’s crucial to define clear payment terms and enforce strict credit control procedures. Consider credit checks on new customers and early payment discounts. Setting up direct debits, monitoring accounts receivable, and accurate bookkeeping all help avoid accruing bad debt.

    When bad debt gets out of control, it can sometimes result in the need for debt collection, legal action, and court proceedings, but these options should always be a last resort. They’re not only expensive but can jeopardise relationships beyond the point of repair.

    The Jameco Group team understands the challenges small businesses face in managing late payments. In this helpful guide, we’ll give some tips and strategies to help you reduce financial difficulties arising from bad debts and encourage your customers to pay on time.

    We work with many small—to medium-sized businesses, helping them establish robust accounting procedures. From Xero bookkeeping to accounts receivable management and cash flow forecasts, we can help you keep your finances healthy and your business on the up.

    For more personalised advice, please get in touch for a chat with one of our friendly and knowledgeable accountants.

    How can late payments impact a business?

    Without consistent and predictable cash flow, it’s almost impossible for a business to sustain its operations, let alone grow. Let’s look at the risks.

    Debts start to pile up

    Delayed payments can prevent a business from settling its own bills on time. Debts, along with late fees and creeping overdrafts, can accumulate at an alarming rate. Falling behind on loan payments, in particular, leaves businesses at risk from action by debt recovery services. Which in turn can lead to…

    Credit score decline

    Late payments can harm a business’s credit history, lowering its credit score on major credit reports like TransUnion, Equifax, and Experian. This is also likely to increase credit insurance premiums.

    Reduced creditworthiness

    Poor credit ratings make it difficult for businesses to secure favourable loan terms, leading to higher interest rates and more expensive credit.

    Payroll issues

    Times are tight enough for many businesses, but when cash flow problems hold up payroll, things can start to get really messy. Cue unhappy employees and higher staff turnover.

    Reputational damage

    Financial instability, insolvency and a high turnover of unhappy staff clearly do nothing for a company’s reputation. Even after financial recovery, a tarnished business reputation can make it difficult to rebuild business relationships and attract new customers.

    Late payments do so much more damage than just affecting immediate cash flow; they pose long-term risks to your business’s financial health and reputation. Implementing strict credit control measures, disciplined accounting and maintaining good customer relationships are essential to mitigating the risk.

    Effective strategies to prevent bad debts and late paying customers

    Here are some proven methods to help you reduce bad debts and encourage timely payments from your customers without resorting to legal action.

    1. Clearly define your payment terms

    Clearly defining and communicating your payment terms is essential to preventing bad debts and late payments. Let’s examine how to achieve this.

    Define your payment window

    Clearly define the time in which your clients have to pay, e.g. 30 days from the invoice, and make sure you are both on the same page from the start. This is particularly important if you sell on credit.

    Have a clear credit policy

    Develop a concise credit policy that outlines the forms of payment you accept, the payment timeline, and the penalties for late payments or non-payment.

    Communicate your terms and conditions

    Ensure that your terms and conditions are clear on all correspondence, including contracts, order confirmations, and invoices. Customers should be reminded of your credit terms during the sales process.

    Create easy-to-understand invoices

    Create invoices that are straightforward and easy to read. They should prominently feature your payment terms, the exact due date, and accepted payment methods. Making the payment process easy increases the chance of customers paying on time.

    By effectively defining and communicating your payment terms, you set clear expectations with your customers and reduce the risk of late payments and bad debts.

    2. Accurate bookkeeping

    Disciplined bookkeeping and well-monitored accounts receivable are crucial to credit control. Software like Xero facilitates accurate bookkeeping with features like automated bank feeds and real-time data access, giving you a clear picture of your finances

    Here are some must-dos you should add to your regular accounting processes.

    Create an AR Aging Report

    An accounts receivable ageing report helps you track and measure the payment status of all your customers. Use the report to categorise outstanding invoices by the number of days since the invoice issue date, such as 0–30 days, 31–60 days, 61–90 days, and more than 90 days.

    Review, update, act, repeat…

    Be disciplined and update your AR report regularly to identify missed payments that may raise red flags. This allows you to address situations before they escalate and manage your cash flow more effectively.

    Hire an accountant

    Hiring a good accountant can help identify and deal with aged debtors. Your accountant can provide insight into outstanding invoices and help implement credit management procedures to manage and avoid bad debts.

    Accurate bookkeeping helps you monitor your financial status and enables proactive management of your accounts receivable, reducing the risk of bad debts and cash flow shortages.

    3. Credit control

    Creating a robust credit control process will help to ensure timely payments and reduce bad debts. But what does a good credit control policy look like?

    Define a clear process

    Outline a day-by-day strategy from the moment an order is placed until the invoice is paid. This will ensure that your team follows a coordinated, consistent, and professional procedure.

    Agree on a timetable

    Collaborate with key stakeholders and your accounts team to agree on a detailed payment and escalation timetable to ensure everyone is on the same page.

    Provide training

    Train your internal or outsourced accounts team on your process. A lack of clear direction can result in your credit control process breaking down and details being missed.

    What are the stages of credit control?

    1. Invoicing: Good credit control starts with prompt invoicing, sent on the day the order is fulfilled.
    2. Courtesy calls or comms: Schedule regular courtesy calls or send letters/emails to chase unpaid invoices. Always be polite and professional but firm. Remind the late payer of your payment terms and your statutory right to claim interest at the Bank of England base rate for late or partial payment.
    3. Escalation: If the invoice remains unpaid after a certain pre-agreed period, it may be necessary to pass the debt to a specialist debt recovery service.

    By implementing a well-defined credit control process, you can encourage prompt payments, improve cash flow, and reduce the likelihood of bad debts. Escalation should always be a last resort to accrue debt recovery costs and interest on the outstanding balance.

    4. Consider offering multiple payment options

    People crave simplicity, so creating flexible and easy payment options can significantly reduce late payments. Here are some effective tactics to encourage a customer to make full or partial payment within your agreed timeframe.

    • Flexible payment options: Offer to break charges into smaller, manageable instalments.
    • Mobile payment options: Enable mobile payments to make the process even more convenient.
    • Create an online payment portal: Choose a payment processor and integrate it with your invoicing system.
    • Payment gateways: Use popular payment gateways like Stripe and GoCardless to provide more choice and flexibility.
    • Direct Debit: Setting up direct debits can save time for both parties.

    The easier it is for your customers to pay, the fewer opportunities they will have for deferring. Fortunately, the latest accountancy software, such as Xero, allows you to customise invoice templates to include multiple electronic payment methods and information.

    5. Credit check new customers

    Running credit checks on potential customers can be a good idea to assess their creditworthiness. It can help make an informed decision about extending credit terms and setting credit limits. You must get their consent and use a reputable credit reference agency that provides business or consumer credit reports, depending on your customer type.

    6. Discounts and incentives

    Offering discounts and other incentives can be effective in getting your customers to pay their bills early. Here are some ideas to consider:

    • Discount for early payments: Provide a discount to customers who pay their invoices within a specific period. For example, you could offer a 2% discount for payments made within the first 10 days of a 30-day payment term.
    • Incentives for full payment: Offer exclusive deals or rewards for customers who settle their balances in full and ahead of schedule, such as free shipping, exclusive content/products, or charity donations.
    • Credit for early settlement: Consider offering credit allowances for customers who consistently pay their invoices early. This is powerful in building brand loyalty as well as avoiding late payments.

    By incorporating discounts and allowances into your payment terms, you can motivate your customers to pay their bills promptly, thereby improving your cash flow and reducing the risk of late payments and accumulating bad debts.

    6. Put customers on stop

    As a last resort, simply stop providing further goods or pause the services provided until the customer communicates with you regarding the debt.

    While it may be tempting to avoid losing revenue, allowing debts to accumulate can lead to significant financial difficulties and a complete breakdown in relations. Pausing a customer account can deter bad payment habits, especially if your product or service is in high demand.

    Contact Jameco Group for accounting services

    At Jameco Group, we get it—managing receivables isn’t just about keeping the cash flowing, it’s about balancing customer relationships, keeping your business running smoothly and keeping your stress levels to a minimum!

    Contact our friendly team of accountants to discuss how we can help you manage customer payments and maintain your company’s financial health.

    Further reading:

    James Wheeler, founder and managing directors of Jameco Group
    James Wheeler

    James has over 10 years of experience in accountancy and taxation. He has a real passion for business and truly believes SMEs are the heart of the UK economy. In 2017, he founded Jameco Group to provide first-class accountancy, taxation, and business advisory services to individuals and SMEs across the UK.

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