13 Nov Three Contract Provisions to Help You Get Paid
Nearly every small business client or prospective client I have counseled has experienced the pain and annoyance of not getting paid on time (yes, even me). I am sure every small business owner hates looking at the aged invoices report and seeing lots of money sitting there. Some clients have complained of a “collections problem” as if saying that their problems started when the client didn’t pay the invoice. While lack of payment is indeed a problem, the problem may not be simply one of collecting on invoices. Often, the problem is contractual in nature. Many times, when looking at their contract, I see some version of this Invoice clause (which was drafted by a significant national law firm whom I won’t embarrass):
Invoices. All invoices are payable within ________ (__) days of receipt. A monthly service charge of 1.5 percent (or the greatest amount allowed by state law) is payable on all overdue balances. Payments will be credited first to late payment charges and next to the unpaid balance. Client shall be responsible for all collection or legal fees necessitated by lateness or default in payment.
On first reading, most people would shrug and say, “Well what’s wrong with that?” The contract drafter in me cringes when I see such passive and vague language. If clients dig a little deeper they might be able to see the “squishiness” of this clause. Here are three problems with this clause and three solutions to improve this invoicing clause that will incentivize customers to pay on time.
#1. Impose a Customer Obligation to Act in a Defined Time Frame
Payment terms need to actively impose on a customer the need to pay promptly. The above provision doesn’t name the customer as the actor. The word “payable” does not convey any action or imperative to act. The sentence is more of a definition than an obligation. Finally, there is the vagueness of “receipt”. How can a business know when a customer “receives” an invoice. A business knows what the date of an invoice is and nothing else. Just asking a few questions helps develop a better sentence. Who must pay? The customer must pay. When does the company want to be paid? Within X days of the date of the invoice. A better sentence would read:
Customer shall pay all invoices within X calendar days of the invoice date.
The above sentence is short, clear, active, declarative, and easy to measure. The easy measurement becomes useful in the next provision.
#2. Clearly Define Late Payment Penalties
Looking at our example, we can see an attempt incentivize on-time payment (“A monthly service charge of 1.5 percent (or the greatest amount allowed by state law) is payable on all overdue balances”). But the same vagueness problem present in the first sentence persists in the second. Some questions that should be asked: When is the “service charge” assessed? What does “the greatest amount allowed by state law” mean? Is the service charge compounded monthly? What is a “late payment charge” and is it different from the service charge?
Clearly defined late penalties incentivize early payment or at least adequately punish late payment. I recommend three levels, a late fee for payments received after the due date, simple interest accruing at a fixed interest rate for payments more than 30 days late, and attorney or collections agency fees after a certain period of time. For example, a penalty provision might look like this:
If Company receives payment from Customer more than 15 days after the date of the invoice, Company may impose a late fee of $50.00. If Company has not received payment from Customer more than 30 days after the date of the invoice, Company may assess five percent simple interest on the unpaid invoice. Interest begins accruing on the invoice due date. If Customer has not paid an invoice for more than 90 days, Company may refer collection of the unpaid amount to an attorney or collections agency. If Customer’s unpaid invoices are referred to an attorney or collections agency, Customer shall pay all reasonable attorney’s fees or collections agency fees.
Seems a little wordy, but the three penalties are clearly stated an in escalating stringency. The penalties are couched in a “may” context, meaning the Company retains the option to impose or waive the penalty.
#3. Encourage Communication Before the Due Date
Many times, particularly on large invoices, the customer cannot pay the invoice in full. Rather than wonder if the customer will pay on time, it is better to encourage communication and if necessary a payment plan. Make sure the payment plan is a true compromise, but require communication and requests for payment plans to come before the invoice is due. For example:
If Customer requires a payment plan, Customer must contact Company before the due date on the invoice. If Customer requests a payment plan after the due date on the invoice, Company may assess late fees, accumulated interest, attorney’s fees, or any applicable combination of the three. Nothing in this section requires the Company to accept any payment plan.
This section encourages early communication and requests for payment plans. Small business owners are better of knowing they will get paid over time and wondering if they will get paid at all. Lengthy payments plans can even be documented as promissory notes if necessary.
Small businesses need to know they will get paid. While no one can guarantee that clients will pay on time, having a clear obligation to pay in a definite time frame, having a clear escalating consequences for failure to pay, and including an incentive to communicate will incentivize on time payment. At the very least, small business owners can punish those late payments with penalties.