Undoubtedly the best credit control initiative is to
arrange the sales invoicing such that customers pay up
front for goods and services. Despite care taken to
exercise credit checks on new customers the actual payment
experience is often more valuable in practise.
New clients can be asked to pay in advance by issuing pro
forma sales invoices for the initial orders until credit
checks are complete. In businesses which involve the
supplier incurring costs prior to invoicing such as
purchasing materials for a job then it is logical the terms
of trade should require the client to pay an upfront
deposit to cover this expenditure.
The majority of business is conducted on a credit basis and
the terms of supply and payment of goods and services
should be clearly stated in a set of trading terms the
potential customer should sign and agree to before trading
commences. The terms of trade should state clearly the
effective date an invoice becomes payable, credit allowed
and the interest that may be charged in the event of late
payment.
When credit is tight during a credit crunch the money
supply reduces and the cash flow of every business is
affected. Business which have a lack of credit control over
sales income suffer the most as other businesses take
advantage to supplement their own cash deficiencies and
liquidity problems. The solution is to review and set a
clear financial policy the business will follow.
The first step in a credit control system is to ensure
customers want to pay in advance and within the agreed
terms. The very best way to achieve early settlement is to
make the settlement in the interest of the client and money
is in every businesses interest.
A potential solution would be to offer a cash discount for
early settlement. Offering a cash discount for early
settlement adds another valuable tool to the credit control
procedures as the debtors who do not take up the potential
of paying lower prices are most likely to already have cash
flow problems and credit should be restricted.
The financial policies of a credit control system should
include accurate accounting records and the prompt issuing
of sales invoices and the regular production of customer
statements. Clients who go over the allowed credit limit
must be sent a series of credit control letters worded to
ensure the customers take action to pay the outstanding
invoices.
Credit control letters should be sent at predetermined
intervals and each should indicate the amount outstanding
should be paid immediately by escalating the effect on the
business relationship if payment is not made.
Such an escalation may be an initial statement of the
amounts due for payment. Many accounting and bookkeeping
departments use the supplier statements to schedule
payments rather than individual sales invoices. Personal
contact with the supplier accountant or bookkeeper can
assist early settlement.
The first letter should advise the debtor that the standard
terms and conditions have been exceeded and request payment
to maintain a sound trading relationship. The next credit
control letter might advise the sales debtor that late
payment penalties and interest payments will be invoked if
payment is not made.
In the UK there is a statutory right under the Late Payment
of Commercial debts (Interest) Act 1998 to charge debtors
interest on late payment and also claim reasonable debt
recovery costs. The right to exercise this statutory right
does not apply if the terms and conditions of the business
set out different debt recovery parameters. Unless the
terms and conditions or sales invoice set a different
credit term then every commercial invoiced is due after 30
days.
In the UK the interest rate a business can charge is fixed
twice annually on 30 June and 31 December using the base
rate as the reference rate and then is applicable for the
following 6 months. A rate fixed on 31 December is
applicable from 1 January to 30 June of the following year.
The interest rate to be charged would be the Bank of
England base rate plus 8 per cent. If the base rate is 5
per cent on the reference date then the amount that can be
charged would be 5 plus 8 equals 13 per cent.
In the UK there is a set schedule of reasonable debt
recovery costs that can be charged to late paying
customers. These costs are 40 pounds for debts under 1,000
pounds, 70 pounds for debts between 1,000 and 10,000 pounds
and 100 pounds for debts over 10,000 pounds.
If the client chooses to ignore being charged extra for non
payment then the next letter should advise the debtor the
future orders will be placed on stop until the account is
brought to order. Such action by the supplier may harm
future sales but it is better to restrict the financial
exposure to the sales already made than continue to extend
credit where the prospect of never being paid may become a
reality.
If payment has not been received by this stage then a
serious situation has developed. The customer has not paid
on time causing the business a reduction in cash flow. The
debtor has also indicated by non payment action that
increased costs through interest and penalties is
preferable to paying and finally that they are prepared to
risk not receiving further goods and services.
At this stage the supplying business has to consider legal
action to recover the outstanding balance. The amount
outstanding is at risk and legal debt recovery should be
invoked to avoid the whole balance becoming a bad debt
which may never be recovered with the consequential effect
on both cash flow and net profit.
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Terry Cartwright designs Small Business Accounting Software
at http://www.diyaccounting.co.uk/ on excel spreadsheets
providing complete Bookkeeping Spreadsheet solutions at
http://www.diyaccounting.co.uk/bookkeeping.htm for small to
medium sized businesses
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