Imagine a tool that could help you chase unpaid invoices and take away the pain that comes with a customer refusing to pay. Sounds too good to be true? Using artificial intelligence could be the answer.
Research shows small businesses are increasingly owed thousands of pounds in late payments. Almost a fifth (18 per cent) are owed up to £2,500 in late payments – while two per cent are owed more than £20,000, according to Simply Business research.
For small business owners, the issue with customers and businesses not paying invoices on time is unfortunately very real – and has huge consequences to cash flow and even tax.
This guide covers everything you need to know.
How to chase unpaid invoices
You’ve received a purchase order from a customer, sent the items, and issued an invoice – yet you haven’t received payment. What do you do now?
Most of the time, unpaid invoices can be easily settled with a quick overdue invoice reminder email to your customer, gently reminding them that they haven’t paid.
When that doesn’t work, however, or you get no response, then you’ll need to send payment reminders.
Could AI and automation help?
Automatically send payment reminders – review your invoicing process and see what can be automated. Invoice apps can help you set up automatic payment reminders, such as ‘due soon’, ‘due now’, ‘overdue’, and ‘very late’.
Analyse data and predict payment – AI tools could help you look into customer historic behaviour to predict those that might be more likely to pay late.
Select optimal timing to send reminders – AI could help you personalise responses to late payments based on when customers usually engage with emails and messages.
These are just a few ways AI could simplify the extra admin that comes with chasing unpaid invoices, but there’s only going to be more ways technology can help.
How much interest can I charge for unpaid invoices?
When a commercial payment is overdue, a business owner is allowed to charge interest on top. The amount of interest you can charge is set out in The Late Payment of Commercial Debts (Interest) Act 1998.
The interest rate is eight per cent plus the Bank of England base interest rate (currently 4.25 per cent). You can also claim compensation of up to £100 for each invoice depending on how much is owed:
- £40 for invoices up to £999
- £70 for invoices between £1,000 and £9,999
- £100 for invoices over £10,000
The law also allows businesses to claim for ‘reasonable costs’ if the cost of recovering the debt is more than the compensation.
You can charge interest and claim compensation as soon as the payment is overdue, as set out by your payment terms or agreed credit period.
Can I charge interest on late invoice payments?
Yes, small business owners and the self-employed can charge interest on overdue invoices.
The Small Business Commissioner has an interest calculator for overdue invoices to help you work out how much to charge on top of the outstanding balance.
To work out interest, you’ll just need to input the following information:
- payment terms (usually 30 days)
- invoice date
- date invoice was paid (if it has been paid)
- total amount on the invoice
Remember, this article is just a guide, and it’s always worth seeking professional legal advice.
Example interest calculation
If you’re owed £3,000 by a client, you could charge interest at a rate of 12.25 per cent (eight per cent above the current base rate of 4.25 per cent).
This would work out as £367.50 annually or just over £1.00 a day.
To work out how much the client owes in interest, you can multiply the daily amount by the number of days the payment is overdue.
For example, if the payment was 20 days overdue, you’d be owed £20.14 in interest.
As the invoice is between £1,000 and £9,999, you’d also be able to claim compensation of £70.
What are payment terms?
Payment terms and conditions are an agreement for when goods and services will be paid for. And ‘trade credit’ is when a supplier gives the goods to the customer and they’re paid for later.
In the UK, the standard payment date is usually 30 days after the invoice has been issued – though you can change this as long as it’s clearly stated in the payment terms. You may prefer a specific date, cash on delivery, or even up-front payment instead.
Make sure your payment terms are clearly displayed on invoices, along with details of payment methods. If you accept payment by bank transfer, make sure your account details are included too.
How unpaid invoices impact tax
How you’re taxed on unpaid invoices depends on the accounting method you use. If you use cash basis accounting then you’ll pay tax based on when you receive the money in your bank account. However, if you use accrual accounting (or ‘traditional’ accounting) then you’ll pay tax on income based on the date of your invoice.
If you use accounting software then you should be able to write an invoice off as ‘bad debt’ if you haven’t been paid for a certain period of time. Check what’s possible with your specific app and speak to an accountant if you’re not sure of anything.
Tips for getting paid on time (preventing late payments)
There are some things you could try to minimise the chance of late payment in the first place.
Meeting your customers – sometimes meeting someone face to face before you decide to do any work from them can help you avoid working with potentially difficult customers.
Make your payment terms clear – your invoice should include details of how to pay, your bank details, and clearly state the date they have to pay by.
Invest in accounting software – this can automate reminders to prompt payment, saving you time on chasing up unpaid invoices.
Consider credit checks – you could look into your customer’s credit rating before working with them to help give you peace of mind. Many credit reference agencies have affordable services for small businesses.
Try using ‘proforma’ invoices – for new customers, you could ask them to arrange payment before you supply the products or services to build trust that they’ll pay on time.
Take before and after photos – depending on the type of work you do, you might want to evidence the job with before and after photos in case there’s any issues down the line.
Positive communication – check your customer is happy with the job and follow-up afterwards. This keeps an open line of communication and gives them a chance to raise any concerns. Document conversations in case they decide to withhold payment.
What to do if a customer is refusing to pay
If you have a customer that is refusing to pay, it’s a delicate balance between chasing invoices and keeping them on side. Because when you’re freelancing, you are your business, so keeping a positive relationship and a strong reputation is everything.
Firstly, it’s perfectly acceptable to set your own payment terms and expect your clients to respect them.
You should monitor the ‘ageing times’ of your invoices – the length of time that elapses between you raising an invoice and it being paid. Try to keep these periods short and manage your expenditure around them, to help avoid troughs in your cash flow.
Follow these steps to getting paid (but hopefully you won’t need to follow all of these):
- Send a payment reminder
- Send a polite nudge
- Send a firm reminder
- Final demand
- Debt recovery
- Draft a letter before action
- Take it to the small claims court
Can customers withhold payment?
They can, but not necessarily within the law. If you’re having a serious problem with non-payment of invoices, or a customer not paying for a specific job, you may need to take legal action and work with an expert in commercial law. Take real care before acting, to prevent the customer putting in a claim for breach of contract.
How to collect money owed for work done
Factoring and other invoice finance products can provide you with an advance of up to 90 per cent of the value of your invoices within 24 hours of them being raised. Your factoring partner will pay you the cash, and then take on the work of chasing your client for payment. Once the invoice has been settled, they’ll pay you the outstanding balance, minus a pre-agreed service fee and interest.
A factoring facility can be cheaper than using your business overdraft and will often come with the option of using your own branding. This means communication with your customers doesn’t come out of the blue from a third party.
What goes in an unpaid invoice letter (or email)?
Hopefully you’ll only ever need to send one polite nudge for late payment. But if not, you may need to send a firm reminder and, later, a final demand.
If you use invoice software then a late payment reminder can be issued automatically, but if you’re creating one yourself then you’ll need to include:
- your company name and address
- recipient’s name and address
- today’s date
- a clear reference and/or any account reference numbers
- the amount outstanding
- original payment due date
- a brief explanation that no payment has been received
- next steps (you could give the recipient the opportunity to contact you and/or pay within a specific number of days)
- payment options
- reference to your payment terms
Choose a secure communication method – it can be an email, letter, or WhatsApp message.
If your polite reminder doesn’t work, then you’ll need to contact your customer again. Your message should include all the information above, plus:
- a brief explanation that payment is still outstanding, and any charges that may be added in line with your payment terms (and current government legislation)
- next steps, including a cut-off payment date
What is a letter before action?
A letter before action, also called a ‘final demand letter’, is a formal demand for payment. It’s often written by a solicitor but you might choose to manage the process yourself.
Will I need a solicitor if a customer refuses to pay?
Whether you use a solicitor to manage unpaid invoices is up to you. Legally, you can choose to write a letter before action yourself and then represent yourself in the small claims court, but this isn’t for everyone.
This article is just a guide, so speak to a specialist legal advisor if you need to.
Letter before action example
What to include in a letter before action:
- next steps, including a final cut-off date and consequences for failure to pay (this will depend on your debt recovery arrangements)
- all the information you included in previous late payment reminders
- a brief explanation that payment is still outstanding and now in breach of your payment terms
- explanation of any further costs added
At this stage, it’s important to think about whether you’re making a formal statutory demand. This gives someone 21 days to pay the debt or reach an agreement with you to pay. If they don’t, you can apply to the courts to bankrupt your debtor or wind up their company, but this can be a costly process – so consider whether you’ve exhausted all of your options.
Read more about making a statutory demand on the government website, as there are specific forms that you need to use.
If you’re not making a statutory demand, then this letter can simply be a strong letter for outstanding payment. Still, if you don’t receive a response, then a statutory demand may be necessary.
Letter before action template
Here’s a late payment letter template (also known as a letter before action). It gives a reminder of the amount outstanding and due date, plus next steps.
You’ll need to edit this according to your business and circumstances. For example, it might be more appropriate to mention a specific overdue invoice (including the invoice number and any other relevant details), rather than an overdue account balance.
You can also amend this template to turn it into a firm reminder or a strong letter for outstanding payment, according to the steps above. It depends on which stage of the process you’re at.
Can business insurance help recover costs from unpaid invoices?
When a customer leaves you out of pocket because they’ve not paid your invoice, you might wonder if you can claim anything back through your business insurance.
While business insurance doesn’t cover you for late payments or the financial impact of bad debts, you might be able to access legal advice and guides as part of your policy.
For example, if you have legal expenses insurance as part of your Simply Business policy, you have access to a number of useful services through ARAG Businesslaw (you’ll just need your voucher code found in your policy documents to register).
ARAG has a legal advice helpline, available whether you’re facing a serious legal issue or just want to check something with an adviser. They also offer a range of legal templates and guides.
Can you get money back through the small claims court process?
If your payment reminders haven’t been working and you still haven’t received payment, then you might choose to take the matter to the small claims court.
This is a simpler process compared to full court proceedings and it’s possible to represent yourself, so it can be less expensive.
Citizens Advice has guides on how to make a small claim – and it’s a good idea to speak to an adviser first (it’s free).
You can use the Civil Money Claims service if you’re making a claim in England or Wales, and:
- you’re claiming less than £10,000
- you’re over 18 or your claim is against someone who’s over 18
- you have an address in the UK
- you’re not making a claim under the Consumer Credit Act 1974
- you’re not making a claim for personal injury
- you’re not making a claim for a tenancy deposit
The process is different if you need to make a claim in Scotland or Northern Ireland.
Alternatively, you might be able to use the government’s money claim online service. This is an alternative to going to small claims court.
How Citizens Advice can help
You can get free, confidential and impartial guidance on money and debt worries from Citizens Advice – online, by phone, or in person.
Holding bigger businesses to account
Big businesses can sometimes be the worst offenders when it comes to not paying invoices on time. And while this doesn’t cause much of an issue to them, small businesses and contractors are often on the other end struggling with cash flow.
Successive governments have tried to do something about this, and most recently Labour introduced the Fair Payment Code to hold large businesses to account on late payments. It’s designed to reward businesses for paying suppliers quickly and treating them fairly.
Final thoughts
While unpaid invoices can be a source of panic, it’s important to remember that there are steps you can take – and keeping communication with customers professional and clear will help.
Usually just a quick message or a prompt to pay an overdue invoice will be enough. And that’s why investing in technology and exploring how AI could help you is worth a little bit of your time. Taking out the repetitive and frustrating task of chasing payments can free you up for other things like dreaming up your next product idea or mapping out a marketing campaign.
More small business guides
- How to write an invoice
- A guide to bookkeeping for small businesses
- What is a statement of account?
- What type of business insurance do I need?
Looking for self-employed insurance?
With Simply Business you can build a single self employed insurance policy combining the covers that are relevant to you. Whether it’s public liability insurance, professional indemnity or whatever else you need, we’ll run you a quick quote online, and let you decide if we’re a good fit.