What are payment terms?

Payment terms can be described as the conditions in which the payment is issued as part of the sale, this will be either specified by the seller or in a commercial agreement for an exchange of goods or services. Payment terms will be in clear and concise language and will expressly state the terms in the form of an invoice. This invoice may include details of both parties, how the fees are calculated, how to make the payment, and how much time is allowed to make this payment. Ensure you understand the payment terms.

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What payment terms to put on an invoice?

Including payment terms in an invoice is good practice as it will clearly outline the discussed and agreed terms when it comes to the payment. Generally, payment terms relating to late fees for unpaid invoices should be clearly highlighted as this will increase the percentage of paid invoices in the first instance of the invoice being issued. Late fees for these unpaid invoices will typically be charged in the form of percent interest. These late fees for unpaid invoices can also be pre-determined sums, but this needs to be negotiated prior. Other payment terms may include specific deadlines outlining specific dates such as “January 31, 2022”. Typically, vague payment terms such as “payment due upon receipt” do not specify what constitutes a late payment and therefore may lead to delayed payments. Shorter payment periods may be a consideration as the standard practice will allow for 30 days for payment, this can be adjusted to 21 days to collect payments quicker. Another consideration could be the offer of more flexible payment methods that allow for more options such as cash, check, or credit. It is common practice to include which currency the payment should be in, therefore this should also be included on the invoice as well. 

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What are standard payment terms?

Common payment terms that may be used within an invoice include: 

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• 1MD - monthly credit payment of a full month’s supply

• Cash account – account conducted on a cash basis

• CBS – Cash before shipment

• CIA – cash in Advance

• CND – cash next delivery

• COD – cash on delivery

• Contra – payment of the customer is offset against the value of supplies from customer

• CWO – cash with order

• EOM – End of Month

• Letter of credit – a documentary credit confirmed by a bank

• MFI – Month Following Invoice date

• Net (7,10, 21, 30…) – Payment (7, 10, 21, 30… days) after the invoice date

• PIA – Payment in advance

• Stage payment – payment of agreed amounts at stage

 

How do payment terms impact cash flow?

Payment terms can heavily influence day-to-day operations as cash collected and the cash flow from commercial agreements are crucial for a working company. Hence, it is important that you understand them when reviewing a contract. Within B2B transactions, the supplier will not get paid immediately after the delivery of goods or services but usually much later which influences cash flow. The term cash flow is defined as the rate at which money enters and leaves a business in a given time period. When accounting for financial obligations such as overhead, production, operational or other costs, cash flow needs to be managed appropriately by managing payment terms. Depending on the department, many companies will have a net 30 or 45 term, meaning buyers would make the payment for the goods or services 30 to 45 days after the invoice date. These payment periods will normally be negotiated by the purchasing department of a company. This significantly impacts an organization’s cash flow as suppliers face long average payment periods and typically are faced with the challenge of collecting those payments expediently.  Payment terms like these have the effect of negatively impacting liquidity as business owners would have paid for the expenses of the project upfront but would have received little or no income. 

 

In situations such as these, it is better to manage payment terms and negotiate the best possible payback periods, specific to what is best for your own circumstances. In the best-case scenario, payment terms such as payment on a purchase and cash upfront are the best for managing cash flow. This however is typically unlikely to be accepted by your contractual counterpart. Common practice will be a 30-day payment period however, this can be adjusted depending on the client. If the client is lesser-known or riskier, it is acceptable to try and negotiate for shorter payment periods. 

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Some possible avenues to manage your cash flow and get paid faster are to: 

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• Negotiate and finalize payment terms before any work begins

• Offer incentives for early payments and consistently enforce fees for late payments

• Send invoices as soon as practically possible and set up automated reminders for the payment as the due date approaches

 

What payment terms and procedures for liabilities?

Payment terms and procedures for liabilities in the context of procurement and the delivery of the goods or services will typically be well established as this is crucial to any working company. Clear procedures need to be outlined for the payment of purchase orders and non-purchase order procured goods and services, better known as accounts payable. Accounts payable and other liabilities present an inherent risk if not appropriately handled as there needs to be a high level of confidence that the money flowing out of the organization is being sent to the correct suppliers for the appropriate goods and services. Key procedures for handling accounts payable and mitigating potential risks are: 

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• Invoices must be verified to ensure the correct payment is made for the correct amount of goods or services

• For the purchase order, inconsistencies between the invoice and the order larger than 10% must be resolved before the payment can be processed.

• A Signature Control document needs to be maintained based on the policy and instructions provided when confirming authorized approvers when payments are processed

• There needs to be appropriate segregation of functional responsibilities to ensure appropriate financial controls 

 

Purchase order-based payment procedures normally need to be strictly followed for purchases of a good or service above a certain monetary threshold and require more attention. The standard operating procedure for operating a purchase order-based payment is:

 

1. Verify details of the invoice and ensure the purchase is within allowable limits

2. Create ‘receipt’ and complete the Payment Request Checklist

3. Review the Payment Request Checklist, create a Payment voucher

4. Payment is processed

 

Can a supplier change payment terms?

Payment terms with suppliers will often vary depending on the industry, however, in most cases, parties will want the most amount of time to pay. A supplier may be able to change their stipulated payment terms depending on what kind of leverage they have to negotiate more favorable terms. Newer businesses will typically struggle to negotiate favorable terms if they have no track record of payments or amount of trade provided. This can change as the relationship between parties develops, payment terms may become flexible. This also depends on the size of the party, as larger companies may be more reluctant to make exceptions to payment terms as they have a large number of customers and may opt not to negotiate in order to save resources.

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Can a customer change payment terms?

 

Depending on the business and the payment terms, customers have the ability to negotiate better payment terms, it all depends on what current payment terms are being enforced. Suppliers will typically want cash upfront or cash immediately upon purchase but may also often some form of credit in which terms will be clearly outlined. The ability to negotiate better customer payment terms will also depend on your counterpart, as their cash flow position may not allow for longer payback periods. It is also very important that your financial health and creditworthiness score illustrates that your company is financially stable and you are very likely to pay debts on time. This will give you the best footing to be able to negotiate and change your current payment terms.

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Are payment terms on an invoice legally binding?

 

An invoice itself is not legally binding as it is not a legal document in itself and can be manipulated. Invoices have no proof that both parties have agreed to the terms stipulated in the invoice and therefore this is one of its largest limitations. This is the primary reason why there are requirements for tenuous legal standing from an invoice such as signatures from the client or other binding forms of acceptance before the product is sent out and an invoice is issued. Read more about reviewing legally binding documents.