The construction industry is notorious for slow late payments, most things may be related to the trouble of delayed customer payments and the ineffective billing process. If you’ve been struggling to deal with late-payment customers and grow your construction business, you need to implement proper construction billing practices that guarantee invoice accuracy and get paid faster in construction.
In this part, we’ll discuss the best practices that should be followed in construction billing to get paid in a timely manner and avoid running out of cash flow.
But before digging into the billing procedure, let’s go through why waiting on unpaid invoices can put a strain on a company’s cash flow as well as other projects progress, causing a sequence of catastrophes.
So what impact do late payments have on construction businesses?
First, when a small construction company does not get its payables, it is more vulnerable to damage than a large company with large cash reserves. The most serious area of concern is cash flow. Because when money is tight, it is difficult for companies to survive.
Second, late payments not only disrupt cash flow but also prevent contractors from making payments to their suppliers, subcontractors, and even employees. This may result in loss of payment discounts (hence higher cost of goods), and stricter payment terms with suppliers in the future, which may mean that suppliers need to pay earlier, or even need to pay in advance, which negatively impacts the contractor’s cash flow further. Of course, non-payment of suppliers, subcontractors, and employees will disrupt the work of the construction project, leading to delays and creating a sense of mistrust between the affected parties. That’s why late payments are every contractor’s nightmare.
Third, business owners will have lousy credit ratings and impact capability in future credit facilities because business owners cannot meet their creditors' needs. Late payments for credit card bills or loans can cause a company’s credit rating to drop because credit bureaus will consider delays in payment when assessing your credit score. If the credit score is low, obtaining credit facilities will be more complex and costly in the future.
>> Read More: What Is An Overbilling In Construction?
Introduction to Construction Billing Methods
In the dynamic world of construction, understanding how billing works is akin to laying the foundation for a skyscraper. Just as a strong foundation ensures the stability of towering structures, choosing the right billing method guarantees a stable cash flow and a harmonious relationship with clients. Let's delve into the primary billing methodologies and their nuances.
Advances Billing:
Picture this - you're entrusted with crafting a masterpiece, but before you even lay the first brick, your client hands you a portion of the payment. That's the essence of advanced billing. It involves charging the client before the commencement of work and providing a financial cushion for initial expenses. The advantage? Both parties get an assurance: you have funds to kickstart, and the client knows you're committed. On the flip side, some clients might hesitate, equating advance payments with risks.
Arrears Billing:
It's the trust-builder in the construction universe. Here, you bill the client after completing the work. It speaks volumes about your confidence in delivering quality. While it solidifies trust, there's a flip side – the looming uncertainty of when the payment will land in your account, potentially straining cash flows.
Progress Billing:
Think of this as a relay race. As you hit milestones or complete specific project stages, you pass the baton (invoice) to the client. This method ensures a steady cash flow and keeps both parties on their toes, ensuring mutual accountability. However, it requires meticulous tracking and might lead to disputes if not executed seamlessly.
How to Get Paid Faster On Every Construction Project?
Late payment and non-payment may be the biggest cause of the bankruptcy of construction contractors. Paying on time is essential for every business. Although some reasons for payment delays are beyond the contractor’s control, there are specific steps you can take to ensure faster and more reliable payments from customers. Here are some tips for business owners:
TIP #1: Select your customers carefully
Carefully selecting potential customers is a good method to reduce the risks of payment problems. Do a background check on the parties you intend to work with. No matter what role you take, a general contractor or a subcontractor, you should always research your customers’ payment practices, and their financial & credit history. Ask the property owner to provide you with information about the finance source(s) used to fund the project or find out about the general contractor’s previous payment performance are very helpful in letting you know if they have a strong financial source to pay for your work.
TIP #2: Optimize your contract, estimate
Although the verbal agreements still technically constitute a construction contract, the details cannot be proved. Can you work without a written agreement? Yes, you can. Is this a good idea? Definitely No.
A contract is essentially a promise. You are promising to provide quality labor or materials, while the homeowner is promising to pay you for it. However, it is important to be clear about the expectations of all aspects of the contract. The agreement should accurately outline what and when you will provide. It should also show how much you will be paid and when to pay. Every construction contract should include payment terms that can be agreed to by both parties. In addition, you should be aware of the consequences of delayed payment. Will interest be charged for late payment? When does it apply?
In general, the following items should be included in the construction contract:
Project purpose
Title and project description
Cost Estimate
Materials and equipment list
Add-ons and exclusions
Warranty
Another way to ensure that you and the clients are on the same page is to provide estimates for the project from the beginning. An estimate on a construction project usually includes:
A breakdown of the work you plan to do
How long it will take to complete
How much do you think it will cost
TIP #3: Create an information sheet about the property and other parties
Before the start of the project, you’d better gather essential information about the property, the project, and the person responsible for the project. This information is what you will use to prepare the preliminary notices, payment applications, lien claims, etc. If you’re in a payment dispute, it will be hard to get such information. Make sure you create an information sheet for each project so that you can collect the sufficient information you need.
TIP #4: Send Invoices for Progress Payments
You generally can't get paid unless the owner or contractor knows how much to pay you. One of the easiest ways to get paid faster in construction is to submit payment applications or invoices on time and with as much detail as possible. The more accurate detail contained in the invoice, the harder it will be to refute. Many applications for payment are rejected because they contain incorrect completion percentages, incorrect math, or applications that are submitted tardy.
Make sure you invoice on a timely, regular basis. Invoices are usually sent by email, registered mail, or private courier company. You may include a return envelope on the invoice to encourage timely payment. If your contract requires invoices every thirty days on the fifteenth of each month: make sure those invoices are submitted to the owner or contractor on the fifteenth of each month. If there is no specific agreement on the timing of the payment request, it should be submitted regularly (preferably monthly), unless otherwise agreed.
TIP #5: Notice to the owner at the start of the job
Tell the owner of the job site, the work or materials being provided, the estimated value of the work, and the time when the work started. Although the notice to the owner has many uses, the most important use at the beginning of the project is to inform the owner of your name so that they can ensure that progress payments are made appropriately and correctly. Many states also require a preliminary notice at the beginning of the project to maintain or maximize the construction lien rights. These notices are usually not intended to notify the owner of unpaid items.
TIP #6: Make a Phone Call Reminder
You would never know sometimes a persistent problem can be solved simply by a phone call or some phone calls. Though it is not encouraged to use often to replace documented requests for payment, phone calls could give you more good results than you might expect. Keep your conversation light and friendly. Last but not least, remember to confirm the details of your conversation (e.g. the person you talked to, the expected payment date, and amount to be paid) via email or written note later.
TIP #7: Send Lien Waivers
One of the reasons for late payments in construction is the payers have significant difficulties in controlling their risk of liens and double payments. Lien waivers could help to solve this issue and, therefore may secure faster payment when they are used properly. Lien waivers are a guarantee to the property owner that you are not going to file a mechanics lien against their property. There are conditional waivers and unconditional waivers that can be used for partial payments or final payments.
Although lien waivers could be a good way to speed up construction payments, be very careful when you decide to waive your lien rights before you actually receive payment.
TIP #8: Send a Reminder
A reminder could be any written notice like a formal letter email, or invoice reminder. Some people do not take this type of reminder seriously. Though they are simple documents, they could be highly effective in helping you to get paid faster. Make the reminder concise, friendly, and non-confrontational. If you have a system in place, set up automated invoice reminders for your open invoices at a specified time you want e.g. xx days after the due date.
Automation is a good tool that can solve many problems such as:
Anxiety and confrontation especially when it is your loyal or important customers who you need to contact.
Reduce time and energy spent on drafting & sending emails to a considerable amount of customers.
Eliminate the stress when the payments are due and/or when deadlines come pouring in.
TIP #9: Send a Dunning Letter
A dunning letter is a stronger invoice reminder sent to the customer when the payment due date has passed. It is actually a demand for payment following gentle reminders to which the customer continues to have no response. An effective dunning letter should contain the below critical information:
The amount due and any late payment fines or interest penalties
Your credit policy or law references supporting your right to take action
What you’re going to do next
It’s important that you make it clear about your credit policy from the start of the project so that your customer is well aware of it & won’t be offended.
TIP #10: File a Mechanics Lien
You all know a mechanics lien is a legal claim against a home or other property. Though property owners do not like it, a filed mechanics lien is a strong motivation for them to resolve your payment problem.
Mechanics Lien should only be used as a last resort when all other methods you tried are not effective. Each state has laws stating the limited amount of time a mechanics lien can be filed. Therefore early consideration should be made otherwise you would not be able to file it at all.
In most states, mechanics liens are applicable to private residential or commercial works. For public projects, a bond claim is needed instead.
Conclusion
Therefore, it is crucial for businesses to manage their collection process, ensuring on-time payments from customers. Maintaining a healthy balance between incoming and outgoing payments can be key to a small business’s success, but late payments and the cash flow problems they can cause make it hard to do so. If your business sees a large number of late payments, don’t give up and write them off as bad debt. Pursue the payment and establish your reputation as a business that takes contracts seriously. Doing so will help you collect much of what’s due to you, while also minimizing future issues. At Irvine Bookkeeping, we provide complete financial construction bookkeeping service that enables your construction accounting process to run smoothly and run with confidence.
Irvine Bookkeeping is a bookkeeping and tax services construction firm, we provide accurate and reliable accounting services to help our clients to have better control and knowledge of their company finances. At Irvine Bookkeeping, we are working to save your time and money. Once you are free from financial troubles, you have more opportunities to grow your business bigger and stronger. BOOK A FREE CONSULTATION
If you, as a business owner, see that you cannot handle accounting on your own, consider hiring an accountancy service for contractors to help you with it.
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