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Jun 2013

Businesses can improve their cash flow by using ‘late payment’ legislation

In November 1998 the UK Government introduced legislation to give businesses a statutory right to claim interest from other businesses for the late payment of commercial debts. It was one of the first countries within the EU to introduce such legislation with the aim of helping to promote a culture of prompt payment.

Under the legislation small and medium sized enterprises (fewer than 250 employees and either a turnover of less than ˆ40 million or an annual balance sheet total not exceeding ˆ27 million) are entitled to charge each other statutory interest as well as charge large businesses in the public sector for the late payment of commercial debts. They are also entitled to raise a charge in respect of their reasonable debt recovery costs in seeking to recover unpaid bills.

You may not wish to jeopardise an existing customer relationship by invoking the legislation. However, by incorporating the legislation into your payment terms you can send out a message to your customers about how you like to conduct your business. You may be surprised about how positively your customers respond to this. Practical guidance on the late payment legislation:

Background

The regulations are contained in the Late Payment of Commercial Debts (Interest) Act 1998 and The Late Payment of Commercial Debts Regulations 2002. The provisions apply in England & Wales and there is similar legislation in Northern Ireland and Scotland. However seek advice if your debtors are based outside England or Wales.

When is a payment late?

If no credit period has been agreed under the terms of any formal contract the Act sets a default period of 30 days after the rendering of any invoice from which interest can run.

How do I state my intention to use the legislation?

Add the following statement to all your credit application forms, order confirmations, invoices and contracts: “We understand and will exercise our statutory right to claim interest and compensation for debt recovery costs under the late payment legislation if we are not paid according to agreed credit terms.”

How do I make a claim?

When a payment is received late, suppliers should inform the purchaser that a claim is being made for interest on the late payment under the late payment legislation. It is preferable to put this notice in writing to include the amount you will be claiming for late payment.

How to calculate late payment interest?

A useful web address you can use to calculate the interest due can be found by visiting: www.payontime.co.uk/calculater/statutory.html At the start of a six month period the Bank of England will fix a “reference rate” which will be used for the subsequent six months to calculate the interest due. In effect 8% is added to the reference base rate. The current six months reference rate equates to 4.75% and thus the chargeable combined rate amounts to 12.75% prior to its review on 31/12/05.

The interest owed on a late payment is ‘simple’ and not ‘compound’ interest. This is calculated as follows:

Debt sum x interest rate x number of days late = Interest due 365 days. The level of interest is charged on the gross amount of the debt (including any element of VAT). Significantly however you do not have to pay the VAT on the interest sum charged.

The interest continues to run until such time as the principal debt sum has been paid. If the purchaser owes both the principal and interest sums unless payment is accepted on any other express terms, any part payment of the debt will go to reduce the amount of interest first.

How much cost compensation can I claim?

Up to 999.99 = £40
1,000 to 9,999.99 = £70
10,000 or more = £100

How do I collect the interest incurred for late payment?

If payment is not forthcoming, court action can be taken incorporating the statutory compensation for costs and the late payment interest. However, before resorting to litigation you may be able to reach an agreement with your purchaser or indeed coerce payment of the sum by withholding the supply of further goods or services until those elements of the debt are paid.

For further information contact Graeme Weir 

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