Should your small business charge interest on invoices?

Unpaid invoices are a big problem for every business, but they can hit small businesses with limited cash flow especially hard. 

And with alarming statistics on the negative impact of COVID-19 on small businesses, getting paid on time is more important than ever.

To an individual customer, getting behind on a single invoice might not seem like a big deal. But when you have multiple customers behind on multiple invoices, things can quickly become untenable.

Charging interest on unpaid invoices

In many areas, it’s acceptable and even customary to charge interest on unpaid, delinquent invoices. 

But small businesses often feel uncomfortable doing so: entirely understandable. The last thing they want to do is alienate their clients and customers who they rely on to do day-to-day business.  

"For small business owners, relationships are everything."

In this post, we’ll look at arguments for and against charging interest on unpaid invoices. And we’ll explore some alternative approaches you can take to improve your Accounts Receivable performance and your cash flow. 

PROS

• Implementing interest or other finance charges on invoices can create a strong incentive for your clients to pay invoices in a timely manner.
• If you are clear in your communication about how you finance unpaid invoices verbally, in writing, and on your invoices, then there should be no misunderstandings or surprise from your clients when you bill them for the interest. The interest you collect can offset the costs of tracking down payment on delinquent invoices. 
• You can waive the finance charges as an act of good faith to incentivize clients to pay delinquent invoices. 

CONS

• If you are not clear and deliberate in your communication about payment terms, and sometimes even if you are, clients may become frustrated or upset when you add finance charges to their unpaid invoices.
• Frustrated clients might look to change vendors and shift to one of your competitors, (even if your competitors also charge interest on invoices) to try and guilt you into forgiving the interest.  
• Charging interest is regulated by your local laws and regulations, so you will have to do some research to make sure any policies you implement are compliant. 

Alternatives to charging interest on invoices for small businesses

If you want to improve your AR performance but don’t feel comfortable charging interest on late invoices, there are a couple viable alternatives available to you:

1. Rather than charging interest, you can offer a small discount (e.g. 2%) on invoices that are paid early. 
2. Using PSA software to connect your sales, service, and billing functions together can help your invoicing process be more consistent, which can improve your cash flow. 

If you want to start charging interest or late fees on invoices...

Clearly communicating that the interest will be charged is the secret! This is the only way to charge interest or late fees without souring your professional relationships.

"Offering a small discount or other reward for invoices paid early is also an excellent idea to incentivize your vendors, especially if you don’t feel entirely comfortable going through with interest charges."

There are no hard and fast rules when it comes to small businesses charging interest on invoices - every business owner knows their own market and customers best. Remember that there are other ways to improve your AR performance, and a mix of approaches will probably yield the best results.