Companies, Partnerships and Directors
How robust is your credit policy?
A robust credit policy is key to maintaining healthy cash flow and, ultimately, business survival.
Why you need a credit policy
SMEs in particular have a tendency to focus on winning new business without giving due consideration to what would happen if a customer fails to pay. While there is nothing wrong with that, it is important to remember that any delay between delivery of goods or services to a customer is a "credit period". A stark way to look at this concept is to think of your goods or services as cash. Would you trust this person or organisation to pay back a cash loan? You should not be extending credit until you know how you will be able to recover the money if they do not pay.
Although verification of credit worthiness may seem time-consuming, enforcement can be both protracted and costly. There are court fees to consider, service of documents, time spent compiling the claim, payment of a hearing fee if the case is contested and the time required conducting the litigation.
Having obtained judgment
Once you obtain judgment, if the debtor does not pay at that stage you will have to consider enforcement action. Instigating insolvency proceedings is an alternative to debt recovery, but fees are high and there is no guarantee that you will get your money back. Priority debtors, such as banks, mortgage lenders and other secured creditors will be first in line.
If you are extending credit to other businesses, trade references are not a sufficient safeguard unless you check them. A simple search on the Companies House website can reveal a lot of information about the viability of your corporate customer. Credit checks and verification of personal details, including correct telephone and mobile numbers, are vital for consumers too.
Determining the robustness of your credit policy
- Know your debtor - Do you know enough about your debtor? If you do not have enough information about them to be able to determine the action you would take for enforcement of a debt, then the answer is probably ‘no’.
- Ensure that you have robust terms and conditions – When did you last review your terms of business? Are they still meeting your needs? Some of your customers may have historic terms and conditions that need updating. Dates for payment and any interest on late payments should be clearly defined on your invoices and other customer documentation.
- Identify risk factors - Your prior experience with customers is a good way to identify different levels of risk and you should categorise your customers accordingly. If you identify a high-risk customer, insist on part payment in advance. If this is not practical, or they cannot meet this obligation, insist on a promissory note. This is a legally binding document that sets out how and when a debt must be paid, either in installments or on a specific date. If you wish, you can specify that interest must be paid on a promissory note.
- Keep on top of late payments - A good accounts system will flag payments that have become due. When this happens, it is vital that you are proactive. Prompt and polite communication can often result in payment immediately. If not, be understanding but firm. People pay debts in order of necessity. If you have contacted your debtor once payment became due, your invoice will be made a priority over other, older, debts. If payment is still not forthcoming, then call our debt recovery team.