The speed that a subcontractor receives payment can determine a lot for the success of their business. Everyone needs their slice of the pie to keep their business moving forward. When it comes to getting paid, most contractors would love to find a way to motivate their GC or property owner to pay faster. Payment incentives are critical when it comes to collecting faster payments and growing your construction business.
These are some methods you can adopt to encourage positive cashflow and timely payments. By providing incentives to project owners, customers, and other paying parties, you’re helping to keep them between the payment-schedule lines while also encouraging a faster, or more lucrative, payment for your company.
The best payment incentive: Protecting your lien rights
The fastest way to get paid on a project is to protect your lien rights, and enforcing them when necessary. Any additional invoice payment incentives you employ can add extra leverage, but they’re not in the same weight class with the mechanics lien.
The property owner and GC need to know you’re serious about payment – and willing to take steps to protect it. If they don’t believe you’ll hold them to account, you’re much more likely to get short-changed or burned.
Always protect your payments by sending preliminary notices – on every single job. These simple documents punch well above their weight class. They help improve communication with the GC and owner and, in most states, protect your right to file a lien if you don’t get paid.
When you tell the people who pay your invoices that you are willing to file a construction lien if you need to, it gives them a powerful incentive to pay you on time. Construction companies that send preliminary notices are much less likely to have to employ other payment incentives.
If payment is late, sending a notice of intent (NOI) is the next step in the incentive package. A notice of intent to lien lets the party know that, if they don’t pay you, you will take more serious action. In some states, this step is required before you are allowed to file a mechanics lien. Fortunately, an NOI is usually effective enough on its own to motivate your customer to pay.
The documents you use to protect your lien rights are the master keys to faster payment. In fact, if you’re not protecting your lien rights, other methods will be much, much less ineffective.
The Carrot: Early payment incentives encourage growth
Early payment discounts encourage the customer to make a payment to you before the due date. These discounts typically apply within a certain amount of days upon receipt of the payment application. In exchange for faster payment, the customer can receive a discount at a set percentage outlined in the payment app.
These discounted payments help to increase cashflow even though the check is a little smaller. To be practical and useful, determine the discount percentage during the bid phase.
Understand how much faster payment is worth
However, before they offer payment discounts, a construction business should know exactly how much it costs to wait for payment – down to the day. If 30 days is the expected timeframe for payment, but the check comes in within 10, the sub saves money on each of the 20+ days they didn’t have to carry the bill.
There are several reasons early payment discounts can actually improve your business. “Time is money” works as much when saving time as it does when wasting it. The less time a subcontractor has to front cash, the less cash they’ll need. The sub can make a payment to a supplier before interest accrues on that account payable. It also allows the company to float cash to start another job. When you’re receiving consistently early payments on multiple jobs, your firm’s growth can be exponential.
Everyone likes to save money. Customers that are willing and able to pay early for a discount will be happy to do so. The discount helps to increase their bottom line, and that makes for a satisfied customer. They’ll be more likely to cut your checks first, which will drastically reduce slow-pay issues moving forward with that customer.
The Stick: Late payment penalties help keep payment on course
Unfortunately, late payments are a chronic problem in the construction industry. Contractors and suppliers can alleviate the pressure with the right incentives. While avoiding mechanics lien claims is a property owner’s most powerful motivation to avoid late payments, adding a late payment penalty can up the ante.
No one wants to pay more for a good or service than they have to. Paying a subcontractor more than the contract amount is a bad policy for the company. Late payment fees encourage the property owner to make their payments on time. Outlines guiding payment amounts and dates should be in the contract.
Setting the penalty
Developing a standard percentage is a quick and easy way to set your late payment fees. The parameters are pretty straightforward:
- Payments received on time or within a “grace period” incur no penalty.
- After the grace period, hit unpaid balances with a fee at a percentage set in the contract (and included on the pay application and invoice reminder).
Before you set a penalty rate, make sure you’re following your state’s usury laws. The goal with late payments is not to treat the bill as an investment. You want to get paid as quickly as possible, not run up the tab. For this reason, it’s important to monitor due dates closely.
When the customer or GC misses a due date, reach out to them immediately with an invoice reminder, and include information about the grace period and late fee details. The moment the payment becomes overdue, add the late payment fee and send a notice of intent. This policy helps to keep the customer on track instead of just running up the bill.
If you have to tack on a late fee, you can use it as leverage to speed up your payment. Encourage communication and problem solving to come to a mutually beneficial solution. You can waive the fee if your customer pays in full, or reduce the fee for partial payments. However, if the customer doesn’t pay, tack on another fee on the appropriate date.
Ultimately, your goal is to get paid on time, every time. You’d much rather avoid having to assess a late payment penalty (or file a mechanics lien) at all. However, if you get to the point where you’re adding a late payment penalty, it’s time to take more immediate action. Filing a mechanics lien is the most effective way to recover your contractually-owed balance.
Prompt Payment Regulations
Nearly every state has prompt payment laws that provide contractors and suppliers with extra protection to prevent late payments. It’s important to understand the laws regulating late payments in your state, so you can leverage them in your payment incentive policies.
Each state sets their own penalties for delayed payments. For example, New York’s Prompt Payment rules state that on private projects, if payment is withheld for unjustified reasons, interest can accrue at a value of 1%—or higher, if agreed upon in the contract.
Florida’s Prompt Payment policies are a little different. In addition to an interest penalty, successful claimants can also get their legal fees covered.
Adopting new construction payment policies
As with almost anything related to construction payment, transparency and communication are essential. For these policies of early discounts or late fees to be effective, you need to outline them in the construction contract. It’s also good practice to describe these policies in your preliminary notices and payment applications.
Early payment policies are entirely up to you. States don’t require or regulate them. They’re a courtesy, and as such, they don’t necessarily need to be included in the contract. However, it might be a good idea to include your policy if you want your customer to be aware of its existence. If you want the customer to take advantage of it, you’ll need to outline it in your payment applications.
Late payment fees are a little trickier to navigate, but, again, transparency is vital. Unlike early discounts, late fees need to be made explicitly clear in the contract. Both contracted parties need to understand and agree with how these fees will be assessed and accrued. Again, include these details with payment applications, and be explicit about them on your payment reminders.
Protecting late payment amounts requires meticulous documentation. You should be recording the date the payment was originally due, the details around the grace period, and the date of the fee. Document when you send pay apps, reminders, and notices as well. If your customer later contests the penalties, you’ll be glad you nailed them down with documentation.
Use every payment incentive that works for your construction business
These policies might not work on every job or contract. The reality is that some contractors work with such tight profit margins that they don’t have room to provide any discounts. And on a low-value contract, saving a few dollars for early payment may not entice the customer enough. Likewise, a $30 late fee isn’t going to scare the GC into making the payment on time, especially if they don’t believe that you’ll enforce your right to it.
At the end of the day, any payment incentives you provide should be in addition to the strongest incentive the law provides: the right to file a mechanics lien if you don’t receive payment. Implementing policies that protect this legal right is the smartest payment decision any construction business can make. Sending the right notices at the right time lets the paying party know you mean business, and are willing to stand up for your right to collect what you earn.