How Late Payment Fees Work

I'm sure all of us have paid at least one late payment fee in our lives and if not, well, you're a unicorn. If you currently do not charge late payment fees, you need to change that as of today. I do always recommend being paid in full upfront, but in some situations, I do accept payments and I certainly do charge late fees. First, it is fully your discretion whether to charge a client the fee or not, life happens and you can choose to provide a courtesy one-time waiver. I say one-time because it is not something you want to make a habit of doing, especially with the same client, because they will then begin to expect it and not worry about paying late because there will be no consequences.


And, you are just like every other business out there - if you pay your mortgage/rent, utilities, internet, cell phone, car loan, etc late, you will be charged a fee. Not to mention that depending on our financial situation, late payments could really put us in a bad financial bind and you should absolutely have some type of compensation for that. Of course, our financial life is our responsibility and ideally, our budgets are set up accordingly to where a late payment won't bankrupt us, but not all of us are in that position, yet.


There are a few different ways on how you can charge late fees to your client based on what you prefer. You can charge a flat fee, a percentage of what the payment is, or an interest-based late fee. Each has different legal requirements and their own pros and cons, but there is no "right way" to charge a late fee - it's simply based on what you feel is right for you and your business.


Note: This is not the same thing as payment processing fees.



Let's look at how each of these options works:


Late Payment Flat-Fee

A flat-fee is just that, a flat amount that will not change, although you can have tiers of flat-fee late payments. Typically you should give the client a "grace period" before you charge a late fee. The grace period should not be too long, or too short. Personally, I will charge a late fee if a payment is late more than 3 business days and I charge a flat-fee of $50. I also will continue to add fees should the payment not be made after 7 business days and another fee after 11 business days. Each fee continues to be $50. I have actually only ever had to charge a second fee one time (knock on wood). My fees may sound high, but I really want to deter clients from being late - now if the contract is a very small rate, I don't charge this high of a fee as it would be excessive. For example, I offer Registered Agent services through Urban Consulting, LLC, at this time that service is $600 annually or $50 a month. If a client was late on their monthly payment, I wouldn't charge them $50 - that would be insane. The late fee for those services is $7. Now, notice that I say business days, that is because not all of us are slaves to our emails and we may not see an invoice that was sent on the weekend - which that is actually another benefit to the client depending on when the invoice is due. Their grace period could potentially be longer.


You need to check your state law to see if there is a limit of what you can charge for a flat-fee within a certain time frame. Most states do not have any laws around this, but the few that do state something like, you cannot charge more than $120 within that month, or no more than 10% of what the payment is for that month, etc. Be sure to conduct your due diligence so you don't find yourself in a dispute with the client due to not complying with your state law.



Percentage Of The Payment Late Fee

Some will charge a percentage of the payment such as 10%, 20%, etc. Now, I have seen percentages of all different numbers, from 1% up to 20% - I have yet to see one over 20%. 1% for the most part is WAY too low - for the most part, I wouldn't charge anything less than 10%, yet it also depends on what the payment amount is. The larger the payment and the lower the percentage the less you get, obvs. If you choose this method, you need to be very clear with the wording you use and clearly state that it is a percentage of the payment and not an interest fee. They are two separate things, keep reading to see why your wording is so important.



Interest-Based Late Fee

Interest-based fees are federally regulated and often state regulated as well. You need to be very careful if you choose to use this method and conduct your due diligence to ensure you are in compliance with the applicable laws and regulations as the fines for being out of compliance can be fairly large. Setting up your late fees in this manner is essentially the same thing as credit card interest, loan interest, etc, that is why this method has so many laws that apply. This is another scenario where I have seen numbers all across the board and how the interest is charged. For example, you could charge the client 5% for each day, week, every two weeks, etc that they are late, provided your state law allow this -- there is nothing on the federal level stating you cannot do this.


Now, some states won't allow you to charge more than 10% in interest per year and that is one of the main reasons that I do not recommend setting up your late fees to be interest-based. On top of that, you have a lot of information you have to provide the client, disclosures, specific wording, and depending on what your business is it may be subject to Reg Z Truth In Lending which is such a HARD regulation. I've worked with Reg Z a lot in my corporate career and I took, what some would call, excessive training on this regulation because it is so hard and confusing. 99.999% of you reading this blog won't be subject to Reg Z, but I just wanted to mention it. Reg Z applies to credit cards, mortgages (Realtors), loans, lines of credit, installment loans, etc.


You need to inform your client of your late payment policy - technically it's not legally required for flat-fees and percentage fees, but is legally required for interest-based fees. By not informing them in the two other scenarios, they can dispute it and possibly prevail. My late fees are written into my contract and I list them in my Miscellaneous Fee Schedule that I provide with my Welcome Packet. The fee needs to be listed on the invoice as a separate line item and it would be classified as fee income, not consulting income or sales income or anything similar.





tl;dr:


Methods:

>> Flat-fee late payment fee: Ex. $50 flat late fee

>> Percentage of the payment due: Ex. 10% of $400 = $40

>> Interest-based late payment fee: Ex. 5% interest charged daily/weekly/monthly until payment is made


Laws & Regulations:

>> Flat-fee and percentage of payment do not have federal regulations that apply, but your state law may

>> Interest-based late fees are heavily regulated both federally and on the state level. Ex. >> The amount of interest you can charge is capped, several disclosures have to be provided and it is required to be listed in your contract.


Disclosure to the client:

>> Flat-fee and percentage of payment do not have to be written into your contract unless required by your state law, but you do have to disclose it to the client and therefore I strongly recommend you just write it in your contract

>> Interest-based legally has to be written into your contract


My Recommendation:

1st: Flat-fee

2nd: Percentage of interest

3rd: Interest-based






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This is not legal or financial advice and does not constitute a client-consultant relationship between you and Montanna Washburn or Urban Consulting, LLC d/b/a Complianceology. The information in this post is true and accurate at the time published and is subject to change at any time. You are encouraged to conduct your own due diligence, schedule a consulting call with Montanna, or speak with your legal counsel.

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