Updated: Feb 6
Accounts Receivable Problem
Unless you have a business where payments for services or products are immediate, you are most likely plagued with the onerous task of collecting from clients who ignore your invoice. Sometimes you start to wonder if they see your net terms date as a suggestion and use the money they owe you to fund other things personally or in their business. Guess what they do.
Most customers, whether businesses or consumers, have the best intentions and will pay you on time or a few days late. Still, these are not the customers that you develop collection processes and procedures to manage. Only those 5-10% will buy products and services that they really cannot afford or have every intention of not paying your invoice based on your net terms. These individuals or businesses require you to have processes and procedures in place to help protect your business and your cash flow.
For many businesses, this is an issue that contributes to their overall cash flow issues within the business. When customers are not paying, businesses look at alternatives to make payroll and pay creditors. In many cases, business owners look to their HST or Payroll deductions to make ends meet. This decision can land a business a whole different level of hurt with the CRA.
You must have the processes, procedures and mechanisms in place to promptly collect your accounts receivable. The longer they are outstanding, the less chance there is for collection.
Listed below are some simple steps to follow:
Step 1: Credit Application and Credit Process
If you sell products and services in the thousands of dollars and do not require payment upon delivery, you need to develop a credit application and process. You must collect information about the business, the bank accounts, and references. The application needs to inform them that a credit check may be performed, and their bank will be contacted. This you might want to have a corporate lawyer or your accountant review. The customer must sign the application. Though you will ask for three credit references, most businesses will supply people they pay on time, which is why you need to check with their bank. Depending on the information you can get from their bank, you want to perform a credit check through either Trans Union or Equifax.
To perform a check on their bank account, you will need to have your financial institution perform this check on your behalf. A bank or credit union will not provide an individual or business with this information directly. Contact your bank account manager to understand what information is required before you include this on the credit application.
A credit check through a Credit Bureau will cost you between $50-$100, depending on the service. You need to ask yourself how not collecting what this particular client owes you affects your cash flow. If you cannot perform a bank check or the report comes back questionable, it is well worth the money spent on the credit check to give you peace of mind before shipping thousands of dollars of products to their location.
If an individual or business has questionable credit, if you are still planning to sell to them, consider making them make installments until they prove they are creditworthy. Another alternative is to set a credit limit which you will not let them exceed unless they pay the difference up front.
Step 2: Contract or Order Agreement
Whether you have a contract or an order agreement will depend on your business type and what you sell. Most service-based businesses will utilize a contract, whereas a product-based company can get through an order agreement. Both documents must outline all of your terms and conditions and must be signed by the customer before providing products and services. If the customer signs the contract, this is a legally binding agreement as long as it meets the laws of the province.
It is the responsibility of the business to develop the business terms and conditions, so make sure you include your credit & payment terms, shipping terms, warranty and additional terms that relate to your business. Use the services of a corporate lawyer to have the required legal terms and to check the rest of the contract or agreement to ensure it is in line with the legal jurisdiction where you are selling.
Do not pull a contract for services or order agreement off the Internet and hope it will work. The terms included may not even apply to your business or jurisdiction and may not cover you at all in the case of litigation.
Step 3: Collection and Payment Process
Develop a collection and payment process for your business. If you find out later, that this is a good paying client, you can choose to waive this in the future, but in the beginning, you want to err on the side of caution. You might require a down payment or retainer if you are a services business. The same could be true if you are a manufacturer selling products to a distributor or retailer.
Your order agreement or contract, which they signed, will outline any additional fees for late payment. You want to ensure your process and procedures consider when clients pay late. If, for example, your terms are net 30, within five days, you will want to send a friendly reminder that the payment is past due and to ignore if payment has been made. If the payment has not been made within an additional period of time, you want to send another letter outlining that they signed and agreed to the terms of the agreement/contract and that they are now in breach of their agreement. You might even suggest that if issues exist in paying, they get in touch, and you can work out extended payment terms. If they choose to ignore this letter and do not contact you, you are most likely in a default situation. At this point, you want to inform them that if payment is not received by a set date, you will be pursuing further action, which could include reporting to the Credit Bureau or turning them over to collection. Individuals and businesses do not want a strike on their credit records, so you will receive payment in most cases. If you make the threat, you need to be prepared to follow through; otherwise, you will continue to have this as an issue.
Turning a client's name into the Credit Bureau will affect them obtaining financing or purchasing with other vendors. If you have receivables over 90 days, in most cases, these will end up being bad debt and not collectible if you are unwilling to follow through.
Having a credit process that you have documented and followed will help you in the isolated case that you need to go to court to collect the bad debt. If you show they signed a contract/agreement, received letters and made no attempt to work with you, your chances in court are much better if it has to go that far.
Step 4: Hiring a Collection Agency – The Last Resort
We all tend to cringe when we hear the words "collection agency," as we imagine these horrible people harassing and threatening people who owe money. Many organizations do not follow the rules, but collections are a regulated industry, and there are some very reputable firms.
If purchases from your business are in the 10s of thousands of dollars, you need to utilize a collection agency. They will take 20-30% of whatever they collect, but if you are owed a large sum of money, it is well worth turning accounts over to collection at some point. Otherwise, you are spending your staff's time chasing clients who are not paying and will avoid you like the plague. Within your process, you want to state at what point the account is turned over for collection. If a customer is not paying you, they are most likely not paying other vendors. As a business owner, you cannot afford to continue selling to customers who are not paying. If they do not have the money, they should not be purchasing your products and services. If you want to offer credit terms, that is perfectly acceptable, especially when providing services to individuals or businesses needing help. Still, you are in business to make money, and at some point if they are not willing to work with you, you need to make the right decision for your business.
Before hiring a collection firm, check out their rating with the Better Business Bureau and see if they are a member of your province's Society of Collection Agencies.
Outstanding accounts receivable can hurt your business cash flow. Making sales and generating revenue is essential, but if you cannot collect from customers what is owed, the time spent on the front end making the income is futile. You need to ensure that you have a process, procedures, and contracts in place in the beginning versus waiting until you start having an issue in this area. If you are having difficulty in this area, reach out and get help before it affects your business and your cash flow.