Contractual Terms: Why Are They Important, And What Should Be In Yours?

When it comes to preventing late or non payment from your customers, there are a few things you can do. But almost all of them come after getting your business terms and conditions right, and having them put into a formal contract, signed by the client. This simple step is often the one with the biggest impact, and makes every other step much easier to design and enforce. But what do you need to include, and do you really need contractual terms in the first place?

Your Terms Of Business

Your terms of business (also known as terms and conditions), is a contract between you and your customer that defines and controls your business relationship. In these terms, you should outline everything you expect from your customer, and what they can expect from you in return. While you may not think some of the things inside are necessary, one of the big areas term of business can help you in is payments.

Agreeing payment terms with your customers in advance is absolutely vital, and the most common place to do that is your terms of business. Before you agree to supply goods or services to any customer, you should both be crystal clear about what payment is expected, when, and what will happen if it isn’t made. Any negotiations around cost or payment should be done at the point of sale, and not afterwards.

If there is a non-payment, or a disagreement over payment terms, then these terms of business will become the single most important consideration for the courts when deciding on any dispute. This is why you should always have these things in writing, as proving your entitlement to payment will become more difficult if no contractual terms exist.

Your Payment Terms

Knowing what is acceptable in the market, what your own late payment terms are – and enforcing them – is key to making sure you not only recover debts, but interest for late payments as well. This might not be just standard terms you can find anywhere – you have to think about what’s right for your business.

For example, consider whether you should actually accept payment within 1 month, or 30 days? Maybe for your business, 14 or even 7 days would be a better fit. On top of that, should you be looking to take an initial payment or deposit to cover your working costs and show good faith in future payment? Would this improve your ability to buy supplies and grow your business?

A good general rule is that you shouldn’t extend payment terms to your customers that go beyond what you have with your own suppliers. So if your suppliers give you 30 days to pay, you shouldn’t give your customers more than 30 days either. This means there is no gap between when you receive payment and when you need to pay your suppliers.

Interest On Late Payments

Many businesses don’t know this, but it is your legal right to apply interest to late payments. And if they do know about it, a lot of businesses don’t actually apply it. But in reality, the question shouldn’t be whether you apply the interest rates or not, but what rate you should be charging. The standard rate is 8%, but the courts may allow claims for interest rates of up to 30% per annum (subject to a test of reasonableness). So it may be that your circumstances or type of business warrants a higher interest rate for late payments, or even a compounded interest rate.

In situations where there isn’t a contractual entitlement to interest, then the Late Payment of Commercial Debts (Interest) Act 1998 fills that gap. This act implies a contractual term in B2B transactions, allowing interest to be claimed as a contractual right at 8% above the base rate. This act also gives you the right to claim a fixed late payment fee, intended to help toward the admin costs of chasing late payments. Which is ideal really.