August 23, 2021
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Net Payment Terms vs Credit Cards
Having time to pay for an order is important for any business in managing their cash flow. Forcing a customer to pay for a product up front is a great way to kill a potential sale and what could amount to a long term relationship. Therefore, it is in the best interest of any wholesaler to allow their customers time to pay for their orders. There are two ways of doing this, net payment terms and credit cards. However, while both of these methods offer your customers time to pay, there are major differences between the two methods. Let’s compare some of the various features of these two payment options from both the customer’s and the vendor’s perspective.
From a customer’s perspective, being offered net payment terms is very beneficial. It gives them more time and better flexibility in paying for their orders. They don’t need to worry about what happens if they make a payment late. They aren’t constrained as much by credit limits, making it much easier to place large orders. Plus, they are able to develop a good working relationship with their vendors that is mutually beneficial.
Time to Pay
Both net payment terms and credit cards offer your customers time to pay for their merchandise, although not necessarily the same amount of time. Net payment terms are typically 30 days, although it is not uncommon to see terms that are 45, 60, or 90 days. Net payment terms can also be broken up in installments, for example, 30-60-90 day terms allow the customer to pay a third in 30 days, another third in 60 days, and the final third in 90 days.
Credit cards are of course based on billing cycles. Normally credit cards offer two weeks to make a payment after the end of a month-long billing cycle. So depending on when an order is shipped and the customer’s billing cycle, the customer may have anywhere between 15 and 45 days to pay for the merchandise.
Late Payments
It is not unusual that a customer will pay a bill late, and this is probably one of the biggest differences between net payment terms and credit cards. With net payment terms, it is normal for a bill to get paid late, oftentimes a customer may wait a week or two before mailing a check, and then you still need for the post office to deliver that check. This is just business as usual, and normally you would offer your customers a generous grace period to make payment before charging them interest.
With a credit card, the bill is due and must be paid by the date on the bill. That means if you are mailing a check, you need to mail it a week early to ensure it arrives on time. Of course it is much more common these days for credit cards to get paid through a bank’s online bill pay system, but still this needs to get done one or two business days before the bill is due so that it doesn’t get paid late. If a credit card bill is paid even one day late, the credit card company will charge late fees and interest. As a result, companies that pay for orders with a credit card may place smaller orders to ensure that they have enough funds to pay their credit card bill when it becomes due.
Credit Limits
Certainly a customer needs to be credit worthy in order to get net payment terms or a credit card, and how credit worthy they are will determine what type of credit limit they will receive. With net payment terms, a credit limit will be determined by their payment history either with the vendor or on credit reports. This means that in order to get a higher credit limit, the customer needs to request net payment terms from many o their vendors in order to establish a good payment history. It is up to the vendor to determine what type of credit limit to give a customer, and that credit limit has no impact on credit limits imposed by other vendors.
Credit card companies have their own way of determining credit limits, but again they are based on payment history. The difference with a credit card is that the credit card’s limit applies across everything that they put on the credit card. If a customer places orders with three other vendors on their credit card, and then places a credit card order with you, it is possible that they may have already exhausted their credit limit and won’t be able to pay for your order until they pay down their credit card bill.
Relationships
When a customer is given net payment terms they are establishing a relationship with a vendor. They have been assigned a credit limit and will have the ability to have that credit limit increased as they do more business. As a result, the customer is motivated to maintain their relationship, which leads to more and larger reorders.
With a credit card, the customer has no payment relationship with their vendors and how they pay their credit card bill has no bearing on the customer-vendor relationship. A customer may therefore be tempted to go with a new vendor who is offering better pricing as it will have no impact on their ability to place larger orders in the future.
From a customer’s point of view it is easy to see that it is more beneficial to be given net payment terms. It is not unusual for customers to place larger orders when given net payment terms, and to stay loyal to their vendors who offer them net payment terms. In this way, net payment terms benefit both the customer and the vendor.
From a vendor’s point of view, the decision between offering net payment terms or taking a credit card isn’t so clear cut. There are many benefits that a vendor may see in taking a credit card, with the major downside being credit card processing fees. However, with accounts receivable factoring, a vendor can receive all the benefits that credit cards offer at a comparable price tag.
Cash Flow
A vendor’s cash flow is perhaps what is impacted most by the decision to take net payment terms or a credit card. When taking a credit card, the vendor receives the proceeds of the sale immediately after shipping the merchandise, which allows them to maintain healthy cash flow.
With net payment terms, a vendor will not get paid for 30 days or more, which can place major strains on a vendor’s cash flow. However, with accounts receivable factoring, the factoring company will fund the vendor the same day that they ship the merchandise to their customer. In this case they are getting paid just as quickly as they would had they taken a credit card and allows them to maintain the same healthy cash flow.
Credit Checking
When taking a credit card there is no need to do any credit checking or establish a credit limit. All you need to do is swipe the card or key in the numbers. Your terminal will tell you if a credit card is declined because it is over their credit limit.
With net payment terms you are responsible for performing credit checks on a customer and establishing a credit limit. Failing to do so could potentially get you in trouble. However, with factoring, it is your factor’s responsibility to perform the credit checks and establish credit limits. Your factor will also establish a credit limit for how much you can sell to your customer, so there is no need to do worry about what will happen if a customer’s credit card is maxed out.
Collections
With a credit card payment you simply place a charge on the card and have nothing more to worry about. It is not your responsibility to make sure that your customer pays their credit card bill.
With net payment terms, it isn’t so simple. While some customers will mail a check when an invoice becomes due, most customers will need some reminding. This means you will need to have someone managing collections and either sending out account statements or calling customers whose invoices have become due. Of course, with factoring this will become your factors responsibility. Factors employ professional collectors who will handle all of this work. Furthermore, factoring companies tend to be able to get paid quicker than vendors would on their own, and faster payments means faster reorders.
Risk
Clearly when getting paid via credit card, the credit card company is assuming all of the risk in the transaction. It doesn’t matter to the vendor if their customer is unable to pay their credit card bill because they already got their money.
When offering net payment terms, the vendor is assuming all of the risk in the transaction. If a customer is unable to pay, then the vendor is out the money. However, with non-recourse factoring, the factoring company is insuring the vendor’s receivables. This means that if a customer is unable to pay, it is the factoring company who is out the money.
Expense
When taking a credit card, the main drawback is the credit card processing fees. You will be giving up several percent to the credit card company.
With net payment terms, there is no expense. Your customer will mail you a check when payment is due, and you will be able to deposit the full amount into your bank. Of course, if you use accounts receivable factoring, there will be a fee and it will be very comparable to the credit card processing fee you would have paid had you taken a credit card.
From a vendor’s point of view it is easy to see why a credit card may be preferred over net payment terms. However, with accounts receivable factoring there really is no difference between net payment terms and credit cards. As a result, there is no reason to shy away from offering net payment terms when they can easily be factored.
Ultimately, when making a sale, it is best to have every tool at your disposal and to give the customer what they want. If a customer wants to pay with a credit card, then take a credit card. If a customer wants net payment terms, then offer them net payment terms, you can always factor it to avoid the drawbacks of net payment terms. The most important thing is just to make your customers happy so that they will be coming back to you for many years to come.
If you’ve never offered net payment terms and don’t want to deal with slower cash flow or the burden of managing receivables, give DSA Factors a call today at 773-248-9000, email us at info@dsafactors.com, or chat with us right hare on this website. We have been offering accounts receivable factoring for 35 years, and have the ability to make offering net payment terms as simple as swiping a credit card.
