One of the biggest threats to cash flow is late invoice payments from clients. If you aren’t being diligent about collecting payments from your customers, you could end up facing a serious cash flow crisis.
Unfortunately, no matter how diligent you are about collections, late customer payments are a business reality. Payment delays may not be an issue if you have a sizable savings cushion. But if your company has a zero account balance, one late invoice could pose an immediate danger.
One incentive to encourage customers to pay you early is to offer an early payment discount. This article will reveal everything you need to know about offering early payment discounts and how they can benefit your business.
How Do Early Payment Discounts Work?
If the buyer pays before the due date documented on the invoice, an early payment discount applies. This discount decreases the amount of money that your customer owes you. Such discounts are also called prompt payment discounts or cash discounts.
As an example, say you send your customer a 2%/15 – Net 30 invoice in the amount of $2000. If your customer pays the invoice within 15 days of receiving it, they receive a deduction of 2% from the payment. In other words, if your customer pays in 15 days or less, the invoice amount will be $1960 instead of $2,000. If the customer pays after 15 days, they are obligated to pay the original amount of $2,000.
How Much of a Discount Should I Offer?
The early payment discount that you offer will vary based on several factors:
- What’s the industry standard? And what types of discounts are your competitors offering? If it’s common in your industry to offer discounts or your competitors are offering them, then you may be putting yourself at a disadvantage by not offering a discount. Your discount should be consistent with your industry standard or your competitors’ discounts.
- What is the customer’s past history of on-time payments? Your client’s payment history will affect the discount you offer. If you have a customer who already pays on time or early, there may be no reason to offer them a discount. On the other hand, if your customer consistently pays late, a prompt payment discount may motivate them to pay early.
What are the Most Common Early Payment Discounts?
There are a variety of payment terms you can use to incentivize those customers who rarely or never pay their invoices on time. They are:
● 1%/10 – Net 30: The customer can deduct a 1% discount if they pay the invoice within 10 days. If the customer does not pay within 10 days, then the original invoice amount is due in 30 days (no discount).
● 1%/15 – Net 30: The customer can receive a 1% discount if they pay within 15 days. If the invoice is not paid within 15 days, then the original invoice amount is due in 30 days with no discount.
● 2%/10 – Net 30: The customer can receive a 2% discount if they pay within 10 days. If the invoice is not paid within 10 days, then the original invoice amount is due in 30 days with no discount.
● 2%/15 – Net 30: The customer can receive a 2% discount if they pay within 15 days. If the invoice is not paid within 15 days, then the original invoice amount is due in 30 days with no discount.
What are the Benefits of Early Payment Discounts?
Early payment discounts help you, the vendor, get paid sooner. The practice of offering customer discounts also lowers the risk of nonpayment or late payment. And by shortening the time between invoicing customers and receiving payment, you can reduce gaps in cash flow.
What are the Drawbacks of Early Payment Discounts?
One common problem of early payment discounts is that clients can change their minds and decide to pay you in 30, 60 or 90 days without even telling you. Or, some clients may take the discount but not pay the invoice in a timely manner. As a result, you could run into the same cash flow and profit dilemmas you were trying to prevent.
This situation happens often, so it makes good business sense to have a “plan B” to protect you. One easy solution is invoice factoring. With invoice factoring, a factoring company pays you quickly (minus a small fee) for the invoices your customers owe money on, thereby giving you the cash flow you need to cover critical business expenses.
Want a Stronger Vendor-Customer Relationship? Try Early Payment Discounts
Late customer payments aren’t just an inconvenience. Over time, they can threaten the viability of your business. Delayed receivables could potentially paralyze your cash flow, leaving you struggling as to how to pay your bills, vendors and employees.
If you’re looking for a strategy that will incentivize customers to pay you on time, offering early payment discounts is one small change that can make all the difference. When you’re a small business owner on a tight budget, it pays to use every business-boosting strategy in your arsenal. Offering early payment discounts could mean a bigger cash reserve for your business when it matters most. And if that doesn’t work, you can always rely on invoice factoring to give you access to immediate funds, allowing you a worry-free way to pay your own bills while waiting on your customer to pay you.
If you need to improve your cash flow then consider invoice factoring. Contact Interstate Capital for an instant factoring rate quote now.