Payment terms on an invoice are some of the more important aspects of the document. It can help shape your relationship with customers, determine the payment schedule which affects cash flow, and can either help or hinder your company’s ability to grow.
But what are payment terms and how can you go about using them for mutual benefit on behalf of your company and the customers you are doing business with? We’ll answer all of that and more.
Before we dive into payment terms itself, though, let’s ensure we understand what the role of an invoice is.
What is an Invoice?
An invoice is a document that serves as an itemised bill for specific goods and/or services provided. Its purpose is to essentially formally request payment from the seller to the buyer.
It details the transaction that has occurred between your business (as a seller) and your customer (as a buyer). Invoices contain a variety of different information, including the specifics of the goods or services provided, the quantity of those goods or services, the total amount owed and specific agreements related to the payment of that amount.
What are Payment Terms on an Invoice?
Payment terms are included on an invoice. They outline the specific expectations around how and when the payment should be made.
Payment terms are crucial for business in New Zealand and beyond as they ensure smooth cash flow and prevent late payments, which in turn can cause other downstream effects on your business’s operations.
The Importance of Payment Terms
Payment terms on invoices are important for several reasons:
1. Effective Cash Flow Management
By outlining the expectations around when payment is expected to be received, your business can more easily manage cash flow. The more reliable and predictable cash coming into the business is, the easier it is for your business to ensure sufficient funds to cover necessary operational expenses and invest in desired growth.
2. Mitigating Risk
Payment terms set out clearly the payment expectations for both the buyer and the seller in a transaction. The buyer has an explicit and clear understanding of what payment is due, when it is due and under what conditions. The reduction in the likelihood of a misunderstanding or dispute helps to mitigate risk on behalf of your business.
3. Develop Professionalism and Trust
Detailed payment terms on an invoice show customers that your business has well-defined processes and consistent standards. This level of professionalism instills trust and respect for your business and how you choose to operate.
4. Late Payment Resolution
Without payment terms, it can be difficult to mitigate the risk of late payment. Explicit terms outlining penalties for late payments or discounts for early payments can help incentivise punctual invoice settling and discourage delays on your customer’s end. Reducing the risk of overdue accounts from accumulating will help improve the financial stability of your business overall.
5. Legal and Accounting Clarity
When it comes to both entering into a legally binding agreement and ensuring accurate accounting and financial reporting, payment terms are crucial. If a payment dispute arises or your bookkeeper needs to track receivables efficiently, having payment terms in both instances can be of great clarifying benefit.
Breaking Down Payment Terms
What exactly should be included in payment terms on an invoice?
Due Date or Credit Period
This section should specify the exact date by which the full invoice amount is expected to be settled.
Sometimes a credit period can be used instead of a specific date. The credit period, expressed in the form of “Net X” indicates the number of days within which payment of the invoice is expected by. The calculation is made from the date the invoice was issued to the customer.
For example, Net 30 indicates that the buyer has 30 days to settle the invoice. In New Zealand, 30 days is considered to be a standard credit period but it can vary depending on the industry, business and agreement. It is important to note that unless stated otherwise, it can be assumed that Net 30 refers to 30 calendar days and not simply 30 business or working days (i.e., Monday to Friday).
Payment terms on invoice example
Due Date: 2024-06-19 (This assumes the invoice is issued today, 22 May 2024)
Credit Period: Net 30
Discount Terms
If your business offers a discount for early payment to help incentivise faster account settlement and improve cash flow, it should be included in the payment terms.
Generally, the terms will specify the discount as a percentage of the total amount due and will indicate the timeframe within which payment is eligible for the discount. For example, it may specify that a 2% discount is available if paid within 10 days.
Discount Terms: 2% discount if paid within 10 days of the invoice date.
Late Payment Fees
Like discount fees, late payment fees are often calculated as a percentage of the outstanding balance. Late fees work to help discourage overdue payments but need to be included in payment terms and agreed to before being charged.
There are two important factors to note with late payment fees:
- The fee should be a percentage of the outstanding balance, not the original invoice amount. (E.g., It will be lower if the invoice is partially paid.)
- The late fee calculations should be clearly outlined, including if it is calculated daily or weekly.
Late Payment Fees: 1.5% per week on outstanding balance after the due date.
Payment Methods
It is important that your payment terms on your invoice don’t just outline how much the customer owes you and when the account needs to be settled, but provide instructions of acceptable methods of payment.
Depending on the business, you may accept direct electronic bank transfers, credit card payments or cheques. However, your business accepts payment, including clear instructions on your invoice.
It is good business practice and helps to improve your relationship with your customer to offer more than one payment option, if possible. This allows the customer to determine which payment method best suits their preferences and needs as well.
Payment Methods: Bank transfer or credit card payment
Quick Tips for Best Practice Payment Terms
- Research standard payment terms within your industry as a benchmark.
- Consider your business’s cash flow needs and determine credit periods accordingly.
- Take your customer relationships into account and consider their needs.
- Ensure your terms are clearly defined, negotiable and agreed to.
- Make sure the terms are clearly displayed, easy to understand and accurate.
Struggling with Extended Payment Terms? Speak to ScotPac About Invoice Finance
Invoice Finance solutions help businesses manage cash flow to ensure ongoing operations, expansion and growth, and meet expenditure needs. By leveraging the locked up value in your outstanding invoices, your business can access tomorrow’s payments, today.
