As part of optimizing your cash flow, it’s important to consider how much time you will give your clients and customers to pay your business upon receipt of a product or invoice. For B2C companies, customers usually pay at the point of sale. For B2B companies, offering net terms can differentiate your business from its competitors and help you manage accounts receivable.
Here’s what to know about net 30, net 60, and net 90, and whether these payment terms are right for your business.
What are net terms?
Net terms dictate how long a customer has to remit payment upon receipt of an invoice. For instance, net 30 means the customer has 30 days to settle their account, net 60 allows for 60 days, etc.
Some businesses offer early payment discounts that encourage customers to settle their accounts before the net period is over. If an invoice payment term is “5% 10 net 30,” this means the client can receive a 5% discount if their invoice is paid within 10 days; otherwise they must pay the full amount within 30 days. This incentivizes clients to pay sooner, rather than later.
[Read more: Accounts Payable vs. Accounts Receivable: What's the Difference?]
Common net term variations: net 15, net 30, net 60, and net 90 compared
Net terms tell a customer how many days they have to pay after the invoice date. The number is the whole term: Net 30 means payment is due 30 days out. Net 15, net 30, net 60 and net 90 are the most common net terms used among businesses.
Net 15 is the tightest of the options. It suits smaller invoices, newer client relationships, and service businesses where the work is done and delivered quickly. It speeds accounts receivable but can be too aggressive when billing larger clients whose payment systems aren't built to turn around that quickly.
Net 30 is the default option used by most businesses. It's what clients expect, what accounting software defaults to, and what rarely prompts a negotiation. If you have no strong reason to choose otherwise, this is the safe setting.
Net 60 is common when selling to large corporations, hospitals, universities, and government agencies—basically, any organizations that use their payment terms as a working capital tool.
Finally, net 90 is mostly confined to enterprise procurement, government contracts, and some retail and manufacturing supply chains. Very few small businesses can carry it comfortably, since it can have a major impact on your cash flow.
The option you choose to offer is a cash flow decision, not an administrative one. Your business will have regular, predictable expenses, like payroll and rent. The longer your terms, the more working capital you need parked in the business to cover the gap. Longer terms also raise your exposure if a client runs into trouble—more can go wrong in 90 days than in 15.
If an invoice payment term is '5% 10 net 30,' this means the client can receive a 5% discount if their invoice is paid within 10 days; otherwise they must pay the full amount within 30 days.
Advantages of offering net terms
There are some advantages for businesses that are able to offer net terms to their clients. “Generally speaking, business owners who offer net terms are able to drive more sales than those that do not because they’re able to sell to clients that have cash flow problems,” wrote FreshBooks. “In other words, they use trade credit to gain a competitive advantage over their peers who refuse to be as flexible.”
Net terms can also help you build stronger client relationships over time. Net terms are often helpful to B2B companies that are also trying to manage and smooth their cash flow. When you make your clients’ lives easy, they’re more likely to continue doing business with you—and may even recommend your business to other customers.
Disadvantages of net terms
Net terms do have some drawbacks. Despite offering generous net terms, expect that not every client will pay you on time. Some customers may never complete payment, increasing your bad debt. This can lead to cash flow problems and negatively impact your bottom line.
Likewise, cash flow problems can spring up if you misjudge your own accounts payable and offer net terms that don’t provide you the capital to pay on time. Assume that every customer will max out their net terms—meaning if you offer net 30, assume the customer will pay on day 30. It takes careful planning to make sure you set net terms that allow you to keep your own invoices paid on time.
Lastly, consider the risks of offering early payment discounts. “If a business already has tight margins, a 1% or 2% discount can shrink them more or even lead to loss. If a $1,000 order nets a profit of $200, a 2% discount (resulting in a profit of $180) translates to a 10% decrease in profit,” wrote Oracle NetSuite.
[Read more: 5 Tools to Help You Visualize and Plan Your Cash Flow]
What do net terms mean for your accounting?
Net terms could mean extra work for your team. “[N]et term financing requires additional administrative work from your accounting department,” wrote FreshBooks. “You’ll have to keep track of which accounts owe what, when payments are due, which clients take advantage of early payment discounts, and which don’t pay on time.”
One solution to this potential challenge is to set up an automatic recurring payment solution for your long-term customers. If your business offers a consistent set of services charged at the same rate each month, you may be able to set up a way to charge your customer’s account on a regular cadence. This smooths out the entire billing process and makes your cash flow more predictable.
[Read more: Accounting Guide: Cash Basis vs. Accrual Basis]
How to enforce net terms: late fees, collections, and best practices
A little extra work upfront can help avoid late payments altogether. Do your due diligence before you extend net terms: credit-check large new accounts, take deposits on big jobs, and bring automation into your invoicing process so you can send an invoice immediately.
Likewise, make sure you include a provision in your contract outlining the repercussions of late payment. Late fees are only collectible if the client agrees to them in writing and they appear on every invoice. A fee introduced on a past-due notice is hard to enforce.
There are two ways to charge late fees:
- Flat fees: A flat dollar amount, usually $25–$50, that’s charged when payment is overdue.
- Percentage fees: The amount is charged based on the amount of the invoice. For instance, a 5% late fee on a $1000 invoice is a $50 fee.
Some states cap the amount you can charge in late fees. Check this table to see if there’s a cap that applies to your business.
If you have a late fee agreement in writing, there are a few options for enforcing net terms. Give your payee the courtesy of a few email reminders. When email stops working, call the person who approves payment—the holdup is often a missing PO number or a wrong address rather than unwillingness. Past 60 or 90 days, you're down to three options: a collections agency (which keeps roughly a quarter to half of what it recovers), small claims court, or writing it off. All three generally end the relationship.
CO— aims to bring you inspiration from leading respected experts. However, before making any business decision, you should consult a professional who can advise you based on your individual situation.
CO—is committed to helping you start, run and grow your small business. Learn more about the benefits of small business membership in the U.S. Chamber of Commerce, here.
