Which Payment Terms are Right for Your Business?
Creating a smooth cash flow is one of the most challenging aspects new businesses face. Balancing incoming and outgoing payments requires careful planning and diligent monitoring and follow-up. Selecting payment terms is an important decision for small business owners as it has a direct impact on finances and a business' ability to make bill payments and loan payments on time. Business owners that become familiar with basic payment terms can better identify the best invoicing option for their business.
Partial payment up front
Depending on a business' product or service, it may be wise to incorporate a deposit policy into payment terms. Partial payments may take the form of a percentage paid at the time a contract is signed, with additional payments made at benchmark activities or a lump sum due upon completion of the work or delivery of the product.
Partial payment invoicing benefits businesses by increasing the instances of cash flowing in to a business, reducing the likelihood of a cash shortage during a payment cycle.
Due on receipt
Businesses that ask for payments "due on receipt" expect clients or customers to pay the invoice when it is presented, or immediately thereafter. This reduces the time it takes to get paid.
While it works well for organizations with a steady clientele making purchases throughout a payment cycle, "due on receipt" payments may cause cash flow issues if all customers typically purchase goods or services at the same time every month. In this case, since there may be a large influx of cash at one time, it's important to allocate funds to cover the upcoming outgoing payments a business must make prior to the next batch of receivables.
Due on specific date
Another payment terms option for businesses is to invoice clients on one or more specific dates during the month. The first and fifteenth, or fifteenth and last day of the month are two commonly used dates. Businesses that choose this option generally provide continuous services for customers. The benefit of this payment term is knowing exactly when cash inflow will occur, allowing accounting departments to arrange cash outflows for expenses, etc.
These popular payment terms refer to arrangements where the net amount owing is due thirty, sixty, or ninety days from receipt of goods or completion of services. In some cases, small percentage discounts may be earned for payment within the specified time frame. Using this arrangements gives customers time to collect the money required to pay their invoice, but means the business issuing the invoice has a longer wait to receive the funds owing.
If money doesn't flow in to cover payments going out, it can result in a business falling behind on financial obligations. Consistent late payments may mean more accrued interest on credit products, and even a reduced credit score.
Understanding the basics of accounting and payment terms helps businesses make better decisions regarding their payment schedules for financial obligations, which improves cash flow and financial operations.