Credit control: a guide for start-ups

A late paying customer is bad news for any business. But for start-ups, bad credit can be especially tough to recover from. As unpaid invoices pile up and eat up your ready cash, a lax credit policy could even spell the end of your small business.

So, if you are planning on extending credit to your customers, you will need failsafe controls at the ready. Here, we explain everything you need to know to protect your business, whilst making it easier for your customers to pay by card.

How do I check a customer’s credit?

Before extending credit to a new customer, it is important to check their ability to pay back the debt. You can do this in a number of ways:

Pay for a credit check online

Companies like Creditsafe and Experian can provide you with credit ratings for the customer you are dealing with. You can expect to pay under £20 and receive your report instantly, making this the quickest and easiest way of checking a customer’s credit history.

Ask for references from existing suppliers

Ask your customer for the names of at least two suppliers they have had credit with in the past. Be aware, though, that they are unlikely to reveal any names linked to a poor history. Contact the suppliers and ask them:

• Have you actually dealt with this client in the past? Can you confirm the client name and registered address?
• How long have you been doing business with them?
• What credit terms is the customer on? Do they pay on time?
• Do they have any outstanding credit at the moment?
• What is their credit limit? Why is it set to that amount?
• Do you know the customer in any way other than a professional setting?

Ask the customer’s bank for a reference

You need the customer’s written permission for this, and references will cost around £20. Write to the bank, telling them the credit terms you plan to offer the customer and ask them whether, in the bank’s opinion, they will be able to meet these terms.

Responses can sometimes be difficult to interpret. However, if the response does not contain a phrase to the effect that the customer is “good for your figures”, you should take particular care. Ask the bank whether they know of any proceedings for the recovery of debt currently active against their client.

What should my credit terms be?

To stay in control of your credit, you should set out clear, unambiguous credit terms at the outset. Get the customer to read and sign a copy of the terms before you make a sale. Credit terms should cover:

• Credit limits – See below for more on this.
• Maximum credit periods – Set out the exact number of days after which payment is due following the invoice (many companies opt for a 28-day limit). Another option is to require payment on a fixed date – like the 15th of each month – which can keep your cashflow more predictable.
• Discounts for prompt payment – Make sure you monitor whether customers actually pay early when they take a discount.
• Early settlement rebates. These give the customer a proportionate rebate on the interest they would normally pay if they settle the invoice early.
• Penalties for late payments – The law now allows you to claim compensation and interest on unpaid invoices past a certain period, at 8% above the Bank of England base rate. More details can be found here. You should inform customers if you intend to impose penalties for late payment.

How do I set credit limits?

It is essential to set realistic credit limits for customers, especially as a start-up. If you don’t limit your risk, an unchecked bad debt could be hard to recover from. To protect yourself:

Set limits for each customer based on what you are prepared to risk

If you have checked a customer’s credit using the references above, you should have a general idea of how much you can reasonably expect them to be good for. As a general rule, your credit limit should reflect how much debt your company can afford to write off if the customer goes bust.

Stick to the limits – whatever the customer promises

As a start-up, it can be tempting to temporarily suspend your credit limits to accommodate a particularly lucrative order. Avoid this – tell the customer they must obtain the cash to cover the amount over the credit limit. Failing to do this could see your young business crippled by a hefty bad debt.

How do I keep on top of credit control on a day-to-day basis?

By following some simple rules of thumb, credit control becomes much easier. Just remember:

• Invoice as soon as you can – It’s simple. Payment then becomes due earlier.
• Set aside a time to chase debts – Don’t put off the awkward conversations – timetable an hour or so each week to telephone late payers, starting with the largest unpaid invoices first, moving on to the oldest debts.
• Confirm that everything is okay once you have sold a product – Call up customers and get them to confirm that they are happy with their purchase and any goods arrived undamaged and as described. This important step stops customers from inventing excuses after the fact as to why they haven’t paid.
• Insist that excess credit is paid before accepting new orders – If a particular customer has gone over their credit limit, refuse to do business with them until they have paid it off, however tempting new orders may seem.
• Use a credit monitoring service – Most online credit check companies also offer an ongoing monitoring service, in which you can check on any changes to the creditworthiness of customers. This will allow you to spot problems on the horizon before they occur.
• Chase up inactive customers – If orders fall below minimum levels or a customer hasn’t ordered from you in a number of months, it could indicate they are in financial trouble. Investigate whether this is the case, and if it is, try to recover any outstanding debts as soon as possible.
• Calculate your total outstanding credit periodically – Every month, you should look at how much money you are owed across your business – and what it is costing you in real terms. This will help focus your mind on the areas of most concern and allow you to monitor whether credit issues are improving or getting worse.
• Consider using debt collection agencies – If you don’t have enough time to chase up all your unpaid debts, consider using a debt collection agency to do the legwork for you. They tend to get results fast.

What do I do if a customer pays late?

Customers often try to delay payment. It is not necessarily a sign they are in trouble – they may just be putting off payment to better their own cashflow.

To prevent this, try calling your customers the day before payment is due to confirm you will be paid on time. Here’s what to do in the following situations:

• A customer only pays part of the invoice – Acknowledge the part payment and get them to agree to a payment plan to cover the remainder (monthly payments, for example). Refuse to offer them any more credit until they pay off their balance.
• A customer has a problem with a part of the order – If a customer refuses to pay because they have an issue with one item on the invoice, require them to pay the rest of the undisputed invoice in full, then deal with the item separately.
• A cheque bounces – Call the customer immediately and ask for the balance to be paid using another method. Keep hold of the cheque to use as evidence.
• A cheque is incorrect – Again, call the customer immediately and ask for a new cheque.
• A customer consistently uses delaying tactics – Put them ‘on stop’ – refuse to supply them until the outstanding invoices are paid. Make sure your stop list is easily available and up-to-date.

How do I chase up debts?

Chasing debts is always an awkward process, but you need to be firm. Follow these tips:

• Use the phone – Don’t just email customers when their payment is late – an email is easily ignored. Get them on the phone, so they are forced to explain the reason for the delay. Keep a written log of all your calls as evidence.
• Insist on dates – A customer might have a thoroughly legitimate-sounding excuse, but you should always insist on a practical outcome – when, exactly, can you expect to be paid? If they claim a cheque is ‘in the post’, ask for a cheque number as proof.
• Be persistent – Don’t be fobbed off by a promise of a call back – if the customer says they are too busy, ask them when they will be available for a call again. Keep calling whenever you can.
• Use an external debt collection agency – If the above methods bear no fruit, call in the experts. They normally charge commission of around 10% for collecting commercial debts.
• Send a letter of claim – If all other methods of chasing up have failed, send the customer a letter of claim – this will state that you plan to start legal proceedings if the customer doesn’t settle their debts within a certain time. You need to send one of these before you can sue.
• Sue them – Debts under £10,000 can easily be collected using the small claims track at the county court, for a small fee. You won’t need to hire a lawyer for such amounts, but you should consult a solicitor if you plan to instigate proceedings for anything higher.

How do I deal with big companies?

When supplying to larger companies, the situation is different. Large companies are notorious late payers, and you will need to stay alert to get paid on time. Make sure you:

• Know where to send invoices – Find out the name of the person or department that deals with supplier invoices. Call them after submitting your first few invoices to check they have received and are processing them.
• Send a statement – Statements are documents that summarise all the money owed to you from previous invoices from a specified date. Some larger companies will refuse to pay invoices without them. So, send statements along with every new invoice.
• Work out when invoices are paid – Big firms generally pay their invoices at a set date every month. Make sure your invoice is submitted before then, and confirm with them you have made the payment run.

How can I protect myself from bad debt?

Shielding your business from bad credit may not be a walk in the park, but it is vital for its growth – and survival. Luckily, there is an easy way to protect your credit: merchant accounts.

Merchant accounts are simply bank accounts which let you accept card payments. They provide extra security by checking the funds are available in your customers’ accounts before authorising payment.

To find out more, take a look at our guide to what is a merchant account?.