Maintaining cash flow is incredibly important for businesses, but so is managing client relationships!
Net payment terms are where cash flow and business relationships collide — they set out the repayment terms while also giving buyers time to gather the funds.
But what is a net payment term, and which is right for your business? Our article takes an in-depth look at the nuances of different payment terms. We look at:
Defining what payment terms are
Comparing net 30, net 60, and net 90 terms
Who is responsible for setting payment terms?
What are the associated risks?
What are the alternatives to using payment terms?
Which terms should you choose for your business?
Let’s get started!
What are net payment terms?
Net payment terms are the terms that state how long a buyer has to make payment after they’ve received goods or services from a buyer. The terms state the period in which the buyer needs to pay the seller’s invoice. Net terms are counted from the invoice issue date. They exist to allow buyers longer to settle their accounts while providing sellers with a defined payment date.
Net 30: What does it mean? How does It work?
Net 30 is a payment term that requires the net amount of the invoice to be paid within 30 days of the invoice being issued.
Net 30 payment terms are probably the most common invoice term in the USA — the 30-day timeframe helps encourage buyers to make timely payments, while also offering a clear time frame for them to get the funds together.
Net 30 terms mean that if an invoice is issued on March 1st, payment would be due on March 31st. Some invoices may specify late payment fees that apply if the buyer doesn’t pay within the net 30 days.
Net 60: What Does It Mean? How Does It Work?
Net 60 payment terms are double the length of net 30 terms — they extend the payment period to 60 days from when the invoice is sent. Net 60 terms are not as common as net 30 terms, but they may be used in some industries where longer payment schedules are common, like wholesalers.
These terms may also be negotiated by the buyer if they need a longer time to get the funds together. If an invoice is issued on March 1 with net 60 terms, then the payment is due on April 30.
Net 90: What Does It Mean? How Does It Work?
Net 90 payment terms extend the payment window even further — to 90 days from the date the invoice is issued. These are not very common but may be used in some industries with long production cycles, or may be negotiated by buyers.
These longer terms are beneficial to buyers but may put a strain on sellers due to delayed payments. If an invoice was issued on March 1st with net 90 payment terms, it would be due by May 30th.
As with net 30 and net 60 invoice terms, late payment fees may apply if the buyer pays outside of the terms.
Net 30 vs. Net 60 vs. Net 90
Net 30, net 60, and net 90 payment terms are all terms that dictate the period between when an invoice is issued and when it needs to be paid.
Net 30 payment terms allow a 30-day period for the invoice balance to be paid. They’re the most common payment term for businesses and are great for businesses that have a steady cash flow. This payment is the preferred one for most suppliers as it means a quick payment and healthy cash flow for the seller.
Net 60 payment terms allow a 60-day period for the invoice balance to be paid. Longer terms are preferred for businesses that need more time to pay, but it may strain the cash flow of suppliers. Some businesses that have a longer cash conversion cycle may prefer longer terms.
Net 90 payment terms allow an even longer period to pay the invoice balance — 90 days from the date of issue. These periods are seen in industries with very long production cycles, or in circumstances when they are negotiated by a buyer with a lot of negotiating power.
Net payment terms work to establish an agreed-upon repayment window between two parties.
They are useful as a way to manage financial expectations for both parties, as well as maintain a steady, predictable cash flow. As such, a wide array of different parties use net payment terms, or similar terms, as part of their business model.
Suppliers might offer net payment terms as a way to encourage their buyers to pay them promptly. The payment window provided from net payment terms also gives the buyer time to manage their finances and cash flow.
Payment terms can be used as a way to build trust between buyers and sellers and also help both parties manage their cash flow.
For a supplier, a net 30 payment term is a great way to make sure they receive their payment within a defined timeframe after they have delivered the goods to the buyer.
Net payment terms are not just for those who supply goods — they are also frequently used by service providers.
After providing services, service providers can offer a net payment term as a window for the client to review the services provided before the payment is due. This period also allows time for the purchaser to clarify any details.
If the client is receiving regular services, net 30 or net 60 payment terms can provide the client with some flexibility around paying, so they can work with their cash flow.
Business-to-business (B2B) companies often use net payment terms to fit in with the financial processes and cash flow requirements of other businesses.
Net 30 payment terms are common practice in many businesses, and they help businesses maintain their cash flow and predict when payments will come. When both parties have clear payment expectations, maintaining cash flow is easier.
Creditors can sometimes use net payment terms to give debtors a timeframe in which to pay back their loans.
In some cases, creditors may use net payment terms to specify when the debtor has to pay back a certain amount of money before incurring penalties or interest.
This helps provide clear terms and payment expectations for both parties and improves the relationship between debtor and creditor.
Lenders typically offer repayment periods instead of net payment terms, but they may utilize specific due dates within their payment schedules which work similarly.
This may be in the form of a monthly repayment that has to be made within a certain window of time to avoid late fees or interest.
Risks Associated with Net Terms
Although net payment terms are great for establishing payment timeframes and ensuring predictable cash flow, they are not without their problems, particularly on the supplier’s end. Here, we break down the most common issues.
Cash flow problems
For suppliers offering net 30, net 60, or net 90 payment terms, there can be cash flow issues, particularly with longer time frames.
For smaller suppliers, if payments are late, it can have a significant impact on their business, and they may struggle to pay their expenses or meet other financial obligations.
Late or non-payment
Late or non-payment can occur with any type of payment in which cash is not required upfront
In some cases the client may accept goods or services knowing full well they will struggle to meet their financial obligations, or in other cases, they may experience unforeseen cash flow issues during the payment term.
This can lead to late payments or non-payments, which harm the cash flow of the seller and can cause ongoing issues.
Increased credit risk
Net payment terms are in essence a way of extending credit to the buyer from the seller.
This increases the supplier’s overall credit risk, and this can be particularly risky over longer terms in volatile industries, as the buyer is more likely to have changes in their circumstances during the term period.
Payment terms allow plenty of time for clients to dispute any issues they have with the goods or services provided. This can further delay payment outside of the original term and can lead to litigation and increased costs for the seller.
Difficulty in collections
When a buyer doesn’t pay within the term period, collecting the payment can be difficult and time-consuming. A lot of times the only recourse a buyer has is to use the services of a collections agency, which is often expensive.
Using collections agencies is likely to damage the relationship between seller and buyer, losing a potential client and even in some cases leading to the seller getting a bad reputation in their industry, even if undeserved.
What Are Alternatives to Net Payment Terms?
While net payment terms are a popular choice, there are alternatives. These include:
Prepayment: This means the buyer pays for the product or services before they receive them. This can be a good option for small businesses that need help covering upfront costs
Paying in cash: Paying in cash, or cash on delivery, means payment is made as soon as the goods are received or the service is performed. This gets rid of the risk of nonpayment and is good for cash flow
Credit card payments: Although accepting credit cards can come with a cost for sellers, it gives the advantage of receiving funds immediately
Deposits/partial payments: Sellers can demand a deposit before delivering the goods or performing the service, to preserve cash flow and ensure the client is reliable
Paying in installments: Instead of requiring the entire balance to be paid within the payment term, sellers can divide the repayments into smaller amounts. This can allow buyers to spread out the costs and sellers to get regular payments to boost their cash flow.
Which Invoice Term is Right for Your Business?
For most businesses, a net 30 term is the best choice — the period is short enough that it doesn’t impact cash flow, and it’s the accepted standard in most industries.
Your answer will depend on the type of industry you work in and the size of your business — make sure you look carefully at the pros and cons of different length terms before making your decision.