The difficult economic climate has taken a severe toll on most businesses and in many cases has led to an increase in the time that it takes to get paid by clients and customers.
However there is a piece of EU legislation which may partially help to compensate for delays in payments due to your business. This is known as the European Communities (Late Payment in Commercial Transactions) Regulations 2002. This legislation has been around for some time but many small businesses are still unaware of its provisions. For those who have heard of it, it is also worth revisiting as the rate of interest chargeable under this legislation increased at the start of 2011.
What does the legislation do?
In simple terms it allows businesses to charge interest on debts due to them after they have become greater than 30 days old. The legislation applies to all commercial transactions in both the private and public sectors. The reasoning behind it is that late payment of debt costs businesses when it becomes necessary to increase borrowing or increase overdraft facilities as well as additional costs in terms of time and resources in chasing up outstanding payments. This legislation gives businesses the option of attempting to recover some of these costs from their customers.
What rate of interest can I charge?
From 1st January 2011 the late payment rate is 8% per annum (being ECB plus 7%). This is the equivalent of 0.022% per day.
Should I charge interest on the whole amount outstanding?
Yes, you do not need to make any adjustment for VAT. You can just charge interest on the total amount which is payable.
How do I calculate the interest payable?
You first need to know the amount which is outstanding (say for the purposes of this example the amount is €2,000). You also need to know the number of days that the debt is outstanding (say for example 75 days). You first reduce the number of days that it is outstanding by 30, as the legislation only covers the time period beyond 30 days.
On the above details, the calculation would be as follows:
€2,000 x 45 x 0.022 = €1,980 divided by 100 = €19.80
That is: the amount owed multiplied by the number of days above 30 that it is outstanding multiplied by the interest rate and lastly divided by 100.
How effective is it in speeding up payments from customers?
This will vary from business to business and from customer to customer. The reality is that where one of your customers is genuinely struggling, the charging of interest will not make much difference to their actual ability to pay and potentially may end up damaging relationships depending on how it is handled. However in other cases it may help to keep you closer to the top of a priority payment list and may work well as a useful feature of a good overall internal credit control system.