Google “collections tips” and you’ll find over 100 million results on subjects such as making collections calls to improving your A/R management (one of those articles was even written by Levelset and recently published on ForConstructionPros.com). The world of collections is much larger than the construction industry, but due to several unique aspects of construction payment, collections in the construction industry have some particular complexities and challenges.
This includes retainage, a practice that would be deemed outrageous by anyone outside of the construction industry. Bonding requirements are another thing that that’s common in construction, but in other industries not so much. Then there’s lien right management, including the exchanging of waivers. But perhaps the most significant contributor to the complexity of payments in the construction industry is the prevalence of the multilevel “payment chain” on the majority projects, with lenders and owners on top, followed by the prime contractor then by the subs, sub-subs, suppliers, etc. Many, if not most, of the construction payment issues and delays that arise can be directly attributed to the circumstances created by the project payment chain. Read on to learn a little bit about why customers don’t pay and to learn some collections tips specific to the construction industry.
Why Customers Don’t Pay
Management of the money that your customers owe – A/R – is an everyday accounting task for all businesses. But using the term “collections” implies that your customer is not willingly paying the money that they owe, and as a result, you are now forced to spend considerable time and energy chasing down the money that is owed.
Of all the things that lead to late- or non-paying customers in any industry, here are a few of the most common causes:
- Billing surprise due to bad communication
- Invoice gets lost
- The customer can’t pay due to financial limitations
- The customer simply forgets (and you don’t remind them)
- There’s a dispute
But we’re talking about the construction industry here, and so you have to consider a few additional circumstances that may be delaying your customer’s payment, including:
- Money has been misappropriated on the project
- There is a dispute about the percentage of work completed
- There is a dispute about change orders or project scope
- Everyone on the project has different payment terms
- A performance / workmanship dispute with another party on the project is holding up your payment
- Bigger companies above you in the payment chain are intentionally delaying their payments to help with their own cash flow
Look at the two bulleted lists above and you will see a major difference: in a “normal” business, a payment dispute almost always involves a direct relationship. You have a customer that’s not paying, and that’s it – there’s no one else involved that’s impacting your customer’s lack of payment. But that’s not the way it works in construction. In fact, there are many possible scenarios in construction where non-payment or a payment delay to you is caused by another party that has no direct relationship to you at all. Due to the aforementioned “payment chain”, an issue with some other project participant can negatively impact your ability to get paid, even if you performed your work perfectly and to the letter of your contract requirements.
In cases where an honest mistake – such as a customer forgetting to pay, or misplacing the invoice, or even being too busy to get caught up on their accounting – is the cause of the payment issue, the best things to do are also pretty easy and immediate:
- Remind your customer that they owe the money
- Immediately resend the invoice
- Make it easy to get paid by offering to take a credit card over the phone
If you find that your business is encountering payment issues too often, then it might be time to either set or revisit your collections policy. A set of procedures, based on collections best practices, should help to make an improvement if your current collections efforts are either lagging or unfocused.
Thankfully, though construction industry payment difficulties are well documented, there are several resources available to help with collections. When it comes to retainage there are two things that you should do. Firstly, it’s a good idea to plan for the cash impact that the withheld retainage is going to have on your cash flow. Some estimates put the average net profit for specialty contractors at just 2.9%. It’s going to take a mound of cash to float a 5%-10% retainage. Know your numbers, and figure out on the front end how much cash you might need to float the project until you recoup the withheld retainage. Secondly, don’t just accept the retainage percentage in the contract you are given as a done deal – try to negotiate a better rate. For example, if the GC that hired you has a 5% retainage with the property owner, but is trying to stick you with a 10% retainage, try to push back and at least get the same 5% retainage.
And last but not least, mechanics lien laws are there to protect you. Protecting and exercising lien rights is an excellent way for construction companies – especially those, like subs, sub-subs and suppliers, that are further down the payment chain – to secure payment quickly and successfully. Here’s a breakdown: Levelset can help to harness the power of mechanics lien laws by helping to manage the tools available to you, including:
- Send Preliminary Notices
A preliminary notice provides visibility to you on the project by officially alerting all of the project participants at the top of the “payment chain” (owners, lenders, and in some cases the GCs) that you are working on the project.
- Send a Notice of Intent to Lien (NOI)
An NOI is not a lien, but rather, it’s the official step of putting someone “on notice” that getting paid is important. We have described the NOI as the best demand letter available in all of the construction business, and the reason for that is simple: NOIs get you paid. In fact, according to levelset’s own research, 47% of the NOIs sent through the levelset platform result in a payment getting received within 20 days!
- Filing a Lien Claim (or a Bond Claim)
“Filing a lien” does not mean filing a lawsuit. Rather, it’s the official step of filing (or recording) a lien against the property owner or a claim against the bond.
- Enforcing Your Lien
This is the final step, basically filing a lawsuit to enforce your lien claim after all other options have been exhausted and you still haven’t gotten paid.
Levelset has several free resources available to help credit professionals – not just in the construction industry, but for all credit professionals – with the challenges that come with their essential job.
We have a number of blog posts on the subject of credit, including the following 3 articles all written by Levelset’s CEO, Scott Wolfe: