Invoice payment terms: Definition, Tips and Examples

The number of independent workers in the US alone is over 51.1 million. This breaks down into these three groups:

• 23.9 million people are occasionally independent workers
• 10.2 million are part-time independent contractors
• 17 million are full-time freelancers

Many see the growth of the gig economy as a good thing. But for some freelancers, unpaid invoices and erratic cash flow cause huge problems.

In this article, we’re going to show you how you can create and use the best invoice payment terms to avoid cash flow problems. Prompt payment will help you build your business and provide more financial security.

What Are Invoice Payment Terms?

Payment terms are the rules a business sets for payment of its invoices. These include the payment date, payment method, and any discounts or penalties for early or late payments.

Your invoice payment terms have a big impact on your accounting and cash flow. Don’t use “normal” payment terms just because you think that’s how businesses work. Instead, read on to learn more about why payment terms are important and which one will work best for your business.

The Importance of Effective Payment Terms

Your payment terms affect how and when your customers pay, how often you experience late payments, and eventually help you make accurate cash flow projections. All these have a direct impact on your life as a business owner.

Let’s dig into these reasons a little more to really understand why you should consider your payment terms very carefully.

1. Clear terms help you get paid faster

   29% of freelancers are paid late.

   While 90% of invoices are paid within a month following the invoice date, the delays can still be devastating.

   Businesses that use clear invoice payment terms get paid faster. Customers know what to pay and when to pay it. Most choose to pay on time.

2. Less financial stress aids in better decision making

   58% of small business owners have admitted they made an unwise business decision because of their worry about cash flow A company’s cash flow has a direct impact on the ability of the owners to run their businesses well.

   When clients pay on time, there is less stress for two reasons:

   • Shorter durations between sending invoices and receiving payment reduce the likelihood of anxiety over unpaid bills.
   • Less hassle during the billing process reduces the cumulative frustration experienced when chasing delinquent customers.

   So, having clear invoice payment terms produces a smoother billing process and better cash flow.

3. Everyone understands the expectations about money

   Successful customer relations are often about managing expectations. Freelancers and small business owners who deliver on time and with the expected quality build up good reputations. Likewise, businesses that pay on time develop a respectable reputation.

   The key to managing these expectations is to be clear before you begin work. Your customers should know your preferred payment method, late payments penalties, and the schedule for recurring payments.

   If the expectations are clear and agreed upon from the beginning, it is much easier to enforce your payment terms later without creating any animosity.

4. Payment near the invoice date makes accounting easier

   Bookkeeping is much simpler when there is less delay between the invoice date and the payment. When a customer pays late, tracking the payments and invoices becomes more difficult.

   There are a few implications of late payments for accounting:

   • Charging late fees is perfectly reasonable, but they also become one more item to be accounted for in the books.
   • Delayed payments can dramatically affect monthly cash flow. This can affect your business financially if your available cash affects lines of credit.
   • If you are working with international customers, fluctuations in the exchange rate can cost you money if the rates change between the invoice date and the payment date.

   Receiving payment close to your invoice date will make your accounting simpler by avoiding these issues.

Source: Pexels

Examples of Payment Terms

Now that we understand why payment terms are so important, let’s take a look at the most common payment terms used by businesses and freelancers.

1. Payment in advance (PIA)

   This is the most advantageous payment term for businesses. If you accept payments before the work commences, you are guaranteed payment and your cash flow will be strong.

   These are common payment terms for those working in creative industries. An artist or writer may request payment in advance because of the time involved.

2. Net 7, 10, 14, 30, or more days

   Payment after a specific number of days is probably the most common payment term. Businesses have used net 30 days payment terms for decades.

   Here’s what you must understand, as a freelancer, about this payment term. You are offering credit to your customer. This is a “Buy now, pay later” term. If you want to use this system, you should be sure you can rely on your customers to pay.

   The length of the payment term will affect your cash flow, so most freelancers and small business owners choose a short time frame, such as seven or fourteen days. If your customers are large businesses, corporations, or government entities, then longer payment terms may be necessary.

3. Invoice date (EOM) end of month

   Another option is to require payment before the end of the current month. This is another simple option and is very clear for your customers. It also helps establish a specific rhythm for when your payments will come in.

4. Day of the Month following the invoice date (MFI)

   Similar to EOM, this establishes a specific date when your customers pay their bills. These two invoice terms refer to the invoice date, which can make your accounting a little more difficult. On the other hand, it can be useful to have many payments arrive in a cluster around specific dates.

5. Cash Payment Terms

   • Cash on delivery: Requiring payment at the point of delivery is very useful for ensuring payment if you have some concerns about the customer’s ability or desire to pay. It will also help smooth out your money movements if you pay expenses, such as contractors or supplies.
   • Cash next delivery: This is when you require payment before delivering the next product or service. You can use this for customers you work for regularly.
   • Cash before shipment: Freelancers or small business owners sending products often require payment before shipment. This is, after all, how Amazon works.
   • Cash in advance: You can require payments before a service or product is delivered. This usually means payment by a specific date prior to delivery. An example would be a small business requiring full payment three days before work commences.
   • Cash with order: Some businesses benefit from requiring cash with the order even if there is a delay before shipping. This might be true of a farmer or artisan whose supplies will be limited. They rely on order counts to produce the correct amount of products.

6. Stage payments or interim payments

   Freelancers providing ongoing services or working on larger projects can use stage payments or interim payments. This is very helpful for keeping the money coming into your accounts during a long project.

   There are other payment terms and accounting methods for more complex payment methods. However, the above list explains the most common payment terms used by independent contractors.

Tips for Establishing Effective Payment Terms

You know payment terms are important and you’ve got a list of different terms you can use. So, how do you get started and ensure success?

We’ve got seven tips to help you set payment terms and enforce them.

1. Harness the power of accounting software

   Sage, QuickBooks Online, Xero, and other accounting software packages give you all the tools you need for payment. You can create professional invoices, set up automated reminders, and set up discounts and penalties for late payments.

   One of the best benefits of invoice software is the ability to receive and track online payments. Linking invoices to payments and your bank statements will make your accounting much clearer.

   Here are three specific things to do with your accounting software:

   • • Ensure your payment terms are clear. The total invoice amount, any late fee, the due date, and your payment methods should be clearly displayed.
     • Set up automated reminders. Most accounting and invoicing software will let you set up automatic emails to give your customers a nudge a few days before and after the due date.
     • Create thank you notes and courtesy letters. One way to help your customers to pay promptly is to be generous when they do pay.

   Accounting software is your best tool for getting paid on time. It makes every part of the process easier for both you and your customers.

2. Agree on terms in advance

   One of the best practices you can adopt for healthy small businesses is to use contracts. A contract makes your terms clear for both you and your customers. Everyone will know when the invoices will be issued, how much they will be charged, and when payments should be made.

   Here are a few tips for negotiating a solid contract:

   • Be very clear, honest, and transparent with your customers. Set your rates carefully, explain them to your clients, and don’t be afraid of sticking to them. Your work is good and you can explain your value to your customers.
   • Use a template for your contracts. The template makes creating a contract easier, but it also comes with contract terms. If you don’t know the points to agree on, using a template will guide you to the right points to negotiate and include.
   • Painful though it might be, don’t be afraid to walk away from a bad job. If the customer seems shady or won’t agree to your terms, just walk away. Trust your instincts and avoid getting trapped in work that is going to bring you headaches later.

3. Use shorter payment terms

   Requiring shorter payment terms is not a problem. Many people who come from a business background are accustomed to net 30, 60, or even 90-day payment terms. However, these later payments are likely to cause issues. Adopt a shorter payment cycle to minimize delays.

   There are a few things you can do to make it easier for customers to accept shorter payment terms:

   • Deliver your work on time. If you are reliable, your customers are likely to be reliable as well.
   • Normalize talking about payments. It’s okay to mention invoice dates and payments in regular conversations.

   Ultimately, you must remember that offering a payment delay is the same as offering credit. Explain this to your clients and tell them you are simply not in a position to function as a credit broker.

4. Use every payment method you can

   Online payments make it easy to use multiple payment methods. There are many options available and using one or two doesn’t prevent you from using more.

   Here are some of the possibilities:

   • Credit card payments
   • Bank transfers
   • Payment brokers, such as PayPal, Stripe, and Wise

   You can also explore escrow services. This enables customers to pay to a 3rd party. The funds are held by the 3rd party until the work is done and approved. Some customers may feel more comfortable with this option.

5. Send payment reminders

   While no one likes to be nagged for payment, sending reminders is a normal part of the business. As we mentioned above, using accounting software makes sending automated messages simple.

   Here’s a simple reminder schedule:

   • 3 days before: This message three days before the due date can be a very friendly reminder.
   • On the due date: When the due date arrives, you can send a cordial message, but be clear you are demanding immediate payment.
   • 3 days after: At this point, the payment date listed on the invoice has passed and your message should be very clear that immediate payment is due.

   These messages should be clear and professional. You shouldn’t be afraid to request payment, but you should also strive for a tone of voice that is friendly while being firm.

6. Match your customers’ needs

   It is acceptable to offer flexible payment if that helps your customer. You shouldn’t compromise your business goals, but there is room for options.

   For example, you can offer scheduled payments, later dates for some customers, or a deposit and final balance scheme. The key is to use a payment system your customers will agree with and follow.

7. Discounts for early payments

   Every business likes to save money. Offering your customers an early payment discount will give them a strong incentive to pay before the due date.

   How much of a discount is the correct amount?

   There are a few things to consider:

   • The standard in your industry: Find out what kind of payment terms other businesses in your field are offering. You want to make sure that your payment terms aren’t too different from what’s normal in the industry.
   • The discount that the competition gives for prompt payment: Check out the payment terms that your closest competitors offer. To stay in business, you should offer the same payment terms as your competitors.
   • How your client has paid in the past: If a customer always pays on time, there’s no need to give them a discount for paying early. But be careful about giving discounts to late-paying clients as a reward. People who always pay on time might not like the new policy.

   Let’s give an actual figure, just to be clear. Most businesses offer an early payment discount between 1% and 5%. 5% is very generous, while 1% will be a trivial amount for smaller invoices.

How to Manage Your Payments

We’ve mentioned a few things in this article for you to do. Let’s recap a few of these, so you have some actionable steps to take:

1. Set up and use a contract management system. This will help you make your payment terms clear and agree on them with your customer.
2. Use an automated invoice system. This will allow you to create clear invoices and track payments professionally.
3. Implement a regular, perhaps automated, message schedule to follow up on payments.

One way to accomplish all three is to use a platform like Indy. Indy provides all these tools in a single platform. You can use it to manage your proposals, contracts, invoices, and customer relations.

Conclusion

Protecting the flow of money into your business is key to success as a business owner or freelancer. Every late payment and unpaid invoice add stress you simply don’t need. To avoid these problems, you should set payment terms that will benefit your business. Then, communicate them clearly to your customers. Consistent reminders and enforcement will help you get paid on time, every time.

Brandt Sohn is a copywriter for Indy, a project management software that helps freelancers organize and manage their businesses. In his free time, he writes articles to pass on his knowledge and first-hand experiences from freelancing.