Late Fees: The Hows and Whys of Charging Them

We’ve all been there.  You miss a payment on a credit card or utility bill and find yourself paying not just the amount due, but the amount due, plus a late fee.  In B2B relationships charging a late fee and/or, a finance charge, is also common practice. If you aren’t already charging your clients for late payments, you should be, but the reason for doing this may be different than you think.

Late fees and interest or finance charges are just one of the many contract terms you should include in a contract before beginning work or shipping products.  The information should also be restated on your invoice and past due reminders and statements.  You can find sample language for this and other terms in our free Credit Application and Terms and Conditions ebooks.  One common way of saying this is, “1.5% per month (18% per year) or the highest rate allowed by law,” just in case this rate is higher than a local law permits.  Several states have rules about how much interest you can charge.

It may surprise you to know that for a vendor who makes money on selling products or services, actually collecting late fees and finance charges is not that common.  What is more important is having the option to collect them as a negotiation tactic. Our agency adds interest to 99% of the claims we get and these fees are part of our initial demand.  However, we only collect interest 10% of the time.  Although occasionally we find a business owner who feels they should pay what they owe, including interest, usually when we collect interest it’s because the debtor didn’t realize that they could have negotiated the interest away. Every day we have debtors say ‘I’ll pay the full original amount owed, but if you want interest you are going to have to sue me.’  We have never had a client choose litigation just to collect the finance charges because that is not a good business decision.

But, even if you don’t collect interest payments, having the charges added to past due reminders and collection agency demands can still be valuable.  Negotiations only work if both parties give up something. Giving up the interest payments owed is often one of our first tactics.  Sometimes, even if we agree to give up some of the principal owed, the debtor still wants more of a discount.  We can then point out that if our client sues (using our contingency attorney), it will end up costing the debtor far more because the judge will add interest, court costs and allowable attorney fees.  A one-year old $50,000 debt at 18%, with a one-year litigation and judgment collection process can add $20,000 or more to the amount owed by the debtor.  This gives us real leverage in the negotiations trying to resolve the matter without litigation.  In the end, our clients get paid more if they have an interest provision even though we aren’t collecting interest and perhaps not even collecting 100% of principal.

In cases where we have sued and won a judgment, the debtor usually does not suddenly volunteer to pay the full judgment amount.  We have to continue to chase the money or the debtor attempts to negotiate for a discount.  Again, we have more leverage if there is pre and post judgment interest charges, and the higher the amount, the more leverage we have.  The settlement may still be for less than the full original principal amount, but getting money via settlement instead of spending years in the judgment collection process is usually a good business decision. 

Not everyone thinks charging late fees is a good idea.  Some people believe that charging a late fee simply allows people to pay late, and that a better tactic is to offer discounts for early payment.  In our experience, late fees do not encourage people to pay late, and as discussed, the fees offer a valuable negotiating tool down the road if someone does default on their payment.  We also find that offering discounts for early payment typically is ineffective. Many people pay the discounted amount, even if they pay the invoice 90 days late instead of 20 days early.  Although you may be tempted to ask for the remaining amount owed, doing so often is a losing proposition. You don’t want to spend time chasing the small difference between what was paid and what was owed.  This can also damage your relationship with the client, who feels entitled to the discount or feels like you are ‘nickel and diming’ them. Unless, discounts for early payment are standard in your industry, we do not recommend offering them.

At The Kaplan Group, we know plenty of negotiation tactics to help you get the money you’re owed.  Let us know if we can help.


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