Charging late payment fees on invoices
As a freelancer or small business owner, it’s likely that you’ll encounter late payments and overdue invoices on at least a few different occasions.
Not only can late payments affect your cash flow, chasing these payments can also take up quite a bit of your time. To minimise the risk and frustration involved with this, many businesses use late payment fees as a way of encouraging customers to pay on time.
In this small business guide, we take a look at everything you need to consider if you’re thinking about charging late payment fees on invoices – including whether it’s legal to charge late fees, how you can calculate late payment charges, and whether there are alternative ways to get your customers to pay on time.
Is charging late payment fees on invoices legal?
One of the most commonly asked questions about late payment fees – and one of the most important things to consider before implementing them – is whether they’re actually legal. In many cases, you’re completely within your legal rights to charge some form of additional fees if a customer doesn’t pay on time, but there are a couple of different things you’ll need to bear in mind.
Firstly, the specific rules for charging late payment fees usually depend on whether the transaction is B2B or B2C. Secondly, the regulations on charging late fees on invoices vary from country to country, so it’s important that you check the specific regulations for the country you’re based in.
Legality of late payment fees for B2B transactions
In the UK, there are two main pieces of legislation covering late payment charges for B2B transactions: the Late Payment of Commercial Debts (Interest) Act 1998 and the EU’s Directive 2011/7/EU.
In summary, these two pieces of legislation outline when you can start charging late fees, how much you can charge, and which types of sales you can charge late fees for.
The Late Payment of Commercial Debts (Interest) Act 1998 and the EU’s Directive 2011/7/EU only apply B2B transactions, meaning that they only cover sales made from one business to another. However, these rules apply for all businesses regardless of size or business structure. As such, the rules that apply for multinational corporations also apply to one-man sole traders.
Legality of late payment fees for B2C transactions
For B2C transactions, there are no official legal guidelines or rules about charging late payment fees on invoices. This means that if you want to charge late payment fees, you first need to ensure that you set clear, specific payment terms that outline when your customers would become liable for paying late fees and how much they would need to pay.
You should also always ensure that your payment terms follow the EU’s guidance for B2C consumer contracts, as payment terms are only binding and enforceable if they comply with these rules.
How should I calculate late payment fees?
For B2B transactions, you’re entitled to charge interest on top of the original cost of the goods or services, as well as an additional fee that covers the cost of recovering the late payment.
Interest rates for late payments are set twice a year, and the standard interest rate is 8% on top of the Bank of England’s base rate. According to the Late Payment of Commercial Debts (Interest) Act, it is legal to charge a lower rate, but it is not legal for customers to try to force suppliers to accept an interest rate that is lower than the standard rate.
For example, you sell £2,000 of goods to a registered sole trader, and the Bank of England’s base rate is 0.75%. The annual interest rate would be £175 (£2,000 x 0.0875). The daily interest rate would be £0.48 (£175/365). After 30 days, the customer would owe £2,014.38 – the original amount plus £14.38 (£0.48 x 30) in late fees.
Furthermore, you can usually charge an additional £40 to £100 for the costs of recovering the late payment, and the specific amount depends on the original value of the invoice:
- If the invoice was valued at £1,000 or under, you can claim £40 compensation
- If the invoice was valued between £1,000 and £10,000, you can claim £70 compensation
- If the invoice was valued at more than £10,000, you can claim £100 compensation.
Using the same example as before, you would be entitled to charge an additional £70 compensation for the costs of recovering the payment. The customer would therefore owe a total of £2,084.38 – the original £2,000 plus £14.38 in late fees plus £70 in compensation.
When can I start charging late payment fees?
For B2B sales, you can start charging late fees if you don’t receive payment within 30 days of:
- The supply date of the goods or services
- The day the invoice was received
- The agreed payment date.
Late payment charges start to accumulate after 30 days of whichever of these dates is latest. For example, your customer receives an invoice on September 1st, you supply the goods on September 3rd, and the invoice due date is October 1st. You can start charging late fees from October 31st, as this is 30 days after the latest of the three dates.
Are there alternatives to charging late payment fees on invoices?
If you’re unsure about whether you want to charge late fees but want to minimise the risk of late payments, there are a few alternative approaches you could take.
One of the easiest ways to avoid late payments is to offer additional payment options. On average, invoices are paid around 14 days sooner when online payment options are available, so giving your customers the option to pay online could lower the risk of late payments and reduce the need for late payment fees.
Similarly, automated payment methods, such as direct debit and standing orders, make it easier for customers to pay on time, therefore reducing the chance of overdue invoices and therefore limiting the need for late payment fees.
Another way to minimise the risk of late payments is to reconsider whether you should be offering goods and services on credit. Offering goods and services on credit is a common way of doing business in many industries, but it can increase the risk of late payment.
Asking for payment up front can therefore reduce the risk of late payments – but you might also need to consider whether this could put off potential customers who are used to making purchases on credit.
Late payment fees and invoicing software
There are many advantages of online invoicing software like Debitoor, one of which is that invoicing software makes it easy to charge late payment fees on invoices.
When you send an invoice with Debitoor, you’ll be able to see when it’s overdue. Once an invoice is overdue, you can create a payment reminder to let your customer know that they need to pay their invoice. When you create a reminder, you’ll be given the option to enter a ‘reminder fee’ or late payment fee.
Your customer will then receive an email reminding them to pay the original amount, plus letting them know how much they owe in late payment fees.