Credit and collections are for many small employers a task to be avoided: although everyone agrees it's essential, no one wants to be responsible.

As a result, a credit and collection policy is something a lot of small employers put off developing until they absolutely have no other choice. As their customer base builds, and more and more customers want to pay by credit, they realise that they need to offer credit terms. Or they ignore those few customers who don't pay their bills, until the few grow into many, and suddenly they realise that they need to spend time collecting overdue accounts.

The problem with this approach is that small businesses that don't plan ahead frequently end up spending a lot more of their time fixing the trouble than they would have taken if they had spent a little more time thinking about their credit policy beforehand and, in countless cases, a poorly planned credit policy has ruined what was otherwise a thriving business.

The purpose of this chapter, then, is to walk you through the process of setting up a credit and collection policy. No one wants to spend all of their time collecting debts. Your time is much more productively spent doing what you do best — running your business. But if you just spend a little bit of time thinking about your credit policy early on, you can save yourself time and money down the road. The success of your business may depend upon it.

Understanding Your Credit Options

A lot of people will tell you that, as a business owner in today's economy, you don't have any choice but to offer credit to your customers. They'll tell you that credit is as essential to business success. Well, they're mostly right. But it's not an absolute rule for every business, particularly for smaller businesses with fairly small customer bases.

Don't fall into the trap of thinking that you should offer credit just because everyone else does. As you'll see as you go through this chapter, trying to collect from those who don't pay you can be extremely time-consuming, costly and frustrating.

Your decision on whether to extend credit to your customers won't involve a lot of complex analysis. It'll be based mostly on good common sense. If the benefits of offering credit, such as increased sales, outweigh the costs of offering it, such as the risks and costs of non-payment, you should offer it. If not, you shouldn't. Just don't forget that if you extend credit freely and don't get paid, it won't matter how much new business you generate you have a high chance of failure if you don’t get paid.

In deciding on a credit policy, you should be guided by the following: if you can demand cash up front and your customers are willing to give it to you accept it. If that's not possible, do this: get as much of your payments up front and in cash as possible. In other words, extend credit only if business conditions demand it.

Consider the factors that will come into play in determining the likelihood that you'll have to offer credit. Determine which types of credit are best for you, if conditions will demand it for your business, as they do for most others (particularly those that sell mostly to other businesses). There are several from which to choose: credit cards, cheques and a wide variety of credit terms (payable in 30 days; half in cash up front, the other half on delivery; 10 percent down, the remainder within 60 days; etc.).

Making Your Credit Decision

Here's a look at the factors that will play a role in your decision whether to offer credit to your customers:

Your industry. If the custom in your industry is to provide credit, you may have no choice but to offer it. If you own a fast food restaurant, you probably can get away with requiring full payment in cash. But if you're a consultant or a lawyer, you may lose business if you don't extend credit. You should consider whether you can gain an advantage over your competitors by offering credit where the industry custom is not to offer it. Can you make more money by letting your customers buy a Pepsi with a credit card? If you can, perhaps you should.

If the type of business you're in is one where credit plays an essential role, you also may have no choice but to offer credit. For example, if you sell your goods through the mail, you'll probably have to extend credit to your customers.

Your customers. The more dependent you are on repeat customers, the more likely it is that you'll extend credit to them.

The better you know your customers, the more likely it is that you'll extend credit to them.

The bigger your customers are and the more buying power they have, the more likely it is that they'll dictate to you whether you offer credit. Also, the wealthier your customers are, the more likely it is that you'll extend credit to them.

Your location. The more economically depressed the area surrounding your business is, the less likely it is that you'll extend credit to your customers (assuming you sell goods and services to people in the community).

Your transactions. The larger your typical transaction is, the more likely it is that you'll have to extend credit.

Your financial condition. The stronger your financial condition and the better your cash flow, the more likely it is that you'll extend credit.

Credit Options

When we picture extending credit to a customer, we typically think of the situation where the customer receives a bill in the mail after receiving the goods or services. But credit comes in all sorts of guises. In fact, any time you don't collect full payment from your customer in cash up front, you've extended credit.

NOTE: If you give your accountant a cheque when you pick up your income tax return, your accountant has extended credit to you because the work was finished before you paid for it.

Here's a look at the types of credit available to you, in ascending order of risk.

Credit cards. If you decide to accept credit cards, you'll first have to decide which ones you want to accept: Visa, MasterCard, American Express, or any of the others. The charge you'll pay to the credit card company will vary, depending upon the volume of your sales and the size of your transactions. The average fee usually runs between 2.5 percent and 5.5 percent of your credit card sales, although American Express runs a bit higher. Accepting credit cards is the least risky of the credit options because most of the risk is on the credit card company.

Cheques. Although cheques are usually considered to be cash rather than credit, they've been included here because they do involve risk on your part. So even if you accept a cheque at the time the goods or services are delivered, you've extended credit because you're bearing the risk that the cheque will bounce. If you accept cheques you'll have to decide which types of identification you'll require.

Credit terms. In some cases, you may want to offer credit terms to your customers. Most often that will occur if you sell your goods and services to other businesses, but sometimes you'll want to extend terms to individual customers. This is the riskiest option because you're forced to rely completely on the creditworthiness of your customers.

In most cases when you extend credit terms to your customers, you'll want to have them sign a sales contract, so you'll have to decide what the credit terms will be in the contract. You have any number of choices, such as COD, net 30 days, net 10 days, etc. To be binding, the credit terms must be in writing and the document must be signed by the customer. In many situations, the credit terms will not be formal and don't need to be in writing.

Building a Credit Policy That Works

Your credit policy is simply your approach to how you want to make your customers pay what they owe you. It's really just a system for determining how you are going to collect payment from your customers. It doesn't have to be written down, but it does have to be planned out.

Think of all the possible credit policies that you could adopt. At one end would be a completely lax credit policy that would allow customers to pay for the goods or services whenever they could. At the other end would be a completely tight credit policy that would always require payment in cash up front, before the goods or services are delivered. In the middle would be a credit policy that balanced cash and credit.

Where should your policy be? It should be as close to the completely tight end as your business conditions will allow. However, reality (and the need to make sales) dictates that, for most of your customers, your approach will be closer to the middle ground. To set up your policy, you'll have to answer three basic questions:

- Which types of credit do you want to offer?

- To whom do you want to offer credit?

- How much credit do you want to offer?

Types of Credit to Offer

Industry customs will go a long way toward helping you to determine which types of credit you offer. The credit options you offer will also depend upon the type of business you operate and the type of customers you have.

Here are some basic guidelines for deciding which ones to offer:

- A lot of small shopfront businesses that sell primarily to individual customers accept only cash. Of those that offer credit, most limit what they accept to checks and credit cards because the risks are fairly low.

- Home businesses, mail order businesses and any other businesses that deal with customers primarily over the telephone or through the mails need to accept credit cards, and some accept checks.

- Small businesses that sell goods and services to other businesses usually offer credit terms (payment due in 30 days, due in 60 days, etc.) to their customers. In most cases, the terms are determined by industry customs. Such terms are commonly called trade credit and have important implications for your cash flow.

- Professional small businesses, such as doctors, lawyers, consultants and accountants usually offer credit terms to both individual and corporate customers.

If you don't fit into any of those categories, and you're having trouble deciding which types of credit to offer, consider these basic guidelines:

1. Set your credit policy in relation to your cash flow needs. Your policy should be set to ensure that you're able to generate from your billings the level of cash that you need to operate your business.

2. Expect to achieve your ideal credit policy only through trial and error. You'll inevitably make some errors about who is a good credit risk and who is not.

3. Remember that your credit policy will change over time as your business, industry and the economic conditions in the country change. You should re-evaluate your policy periodically to determine if it is meeting your needs.

4. Realise that the credit terms you offer might differ from one customer to the next. Your best customers might deserve more generous terms than your other customers. On the other hand, your worst customers might deserve less generous terms than your other customers.

5. Realise that the credit terms you offer to a particular customer might change over time. If a customer begins to be late on payments, you may have to reduce or eliminate the credit terms you offer that customer until he or she re-establishes a good payment record with you.

6. Make sure that you coordinate your credit policy changes with your sales people, if you use different people to handle sales and billing/credit. You cannot change your credit terms after the sale, so it's crucial that your sales people are aware of your policy and any changes you may institute.

To Whom Should You Offer Credit?

You might as well acknowledge to yourself up front that if you extend credit, you're going to have customers who won't pay you on time or even pay you at all. It's unavoidable. No matter how keen your judgment of other people is, you can't always identify them and, of course, not all of the customers who don't pay you on time will end up never paying. Some may be unable to pay you for any number of reasons beyond their control, such as a family emergency or an unexpected downturn in their industry.

The only foolproof way to avoid bad debts is not to offer any credit. Since that isn't practical for most businesses, you'll have to do the next best thing, which is to take all reasonable precautions to protect yourself and to ensure that you're not extending credit to the wrong person or business.

Taking precautions to help you reduce the chances that you'll extend credit to someone who doesn't pay his bills is an extremely important step for a small business owner. One bad debt can strain your cash flow or, in extreme cases, put you out of business. Just don't forget that the decision to extend credit to customers does not mean that you have to extend credit to every customer.

The precautions you take will depend upon whether the customer is an individual or a business. Essentially, you want to gather enough credit information on your customers to give you a good idea whether they are a good credit risk. Also, the information you'll want to gather will be different for different types of businesses. For example, if you operate a mail order business, you may need to take steps other businesses don't have to take to make sure that the credit card is legitimate because you can't see your customer or the card they're using. The best way of processing credit card orders in a mail order business is to wait until the money has been transferred into your bank account before sending the order.

Credit Information on Individuals

Let's take a look at gathering credit information on individuals. The information you'll gather will depend upon whether the credit is a credit card, a cheque or some other type of credit.

Credit cards. Accepting credit cards is a fairly safe credit risk for you to take because the risk is on the credit card company. That's one of the reasons why you're paying them 2.5 percent to 5.5 percent of your credit sales. The company issuing the card takes responsibility for checking the cardholder's credit rating and for collecting the bills. As long as you follow the credit card company's procedures (checking the signature and expiration date on the card, for example), you should be able to eliminate the risk to yourself.

Cheques. Accepting cheques involves more of a risk than accepting credit cards because the cheque could bounce. If the cheque bounces, you — not the bank — will be the one left holding the debt. When you receive a cheque from a customer, you should take the following precautions:

- Make sure that the cheque is signed and dated, that the amount is properly filled out in both places, and that the payee line is either filled in or left blank for you to fill in.

- If you don't know the person giving you the cheque, ask for a driver's license, a phone number, and a credit card. Take down the driver's license number; you might need it (and the phone number) if you have to track him or her down later. The credit card is just for you to see and to satisfy yourself that the customer was able to establish credit somewhere. In fact, don't write the credit card number down on the back of the cheque.

- Look for hints that something may be out of order. Is the customer's address pre-printed on the cheque? Does the address on the check match the address on the driver's license?

- If you belong to a merchant's association or some other group that gives you access to a bad cheque list, call to find out if the customer is on the list. (In fact, you might consider joining such an association for that very purpose.) If that isn't an option, ask questions of the customer until you're satisfied that everything is in order. If the customer's answers are insufficient, don't accept the cheque.

- If the cheque is for an unusually large amount, call the customer's bank to verify that sufficient funds are in the account.

Credit terms. If you offer credit terms to an individual other than by cheque or by credit card you can get a credit report on the individual that will give you information about his or her credit history. These reports can be obtained from any credit reporting firm. To find a credit firm, look in the Yellow Pages under "Credit Reporting Agencies," or some similar listing.

While a credit report can be helpful, it is not infallible. It shouldn't, therefore, be your only source of information on the customer. If possible, you should try to talk to other businesses that may have extended credit to the customer. The amount of trouble you're willing to go to for information will depend upon the amount of credit you're planning to give.

Note: If you run a credit check on an individual, and the report turns up nothing, warning sirens should be going off in your head. A report that turns up nothing is commonly a sign of what is referred to in the industry as a "credit criminal." By "nothing," we don't mean that the person has had no credit problems. We mean that the report shows no credit activity whatsoever: no applications for credit, no credit checks, no anything. Of course, a lack of any information could mean something else. It could mean that the individual is just starting out and hasn't built any credit. As with any credit report, it should not be the only information you rely on and, if you suspect that the individual is a credit criminal, never accuse him or her of it.

Credit Information on Businesses

Credit information is generally easier to obtain for businesses than for individuals because businesses often have more publicly available information than do individuals.

The amount of information you collect should be in proportion to the amount of credit you intend to extend. If the credit limit you're offering is relatively low and the company has a good credit reputation as far as you know, you may not want to spend your time gathering more credit information. If, on the other hand, you intend to offer a high credit limit to a company that you don't know well, you may want to collect as much information as possible.

Financial statements. Financial statements are a valuable source of information. They'll tell you about the company's cash flow and about the income it's generating. You should ask for the current balance sheet, the current income statement, and previous years' financial statements. You don't have to be an experienced accountant to get useful information out of them.

Here are some tips for using these documents:

The balance sheet is probably the most useful of the documents. It will show you both the cash the company has on hand and the amount of money it owes to other businesses. That will give you a general idea of its present ability to pay its debts.

Another way to gauge a business's creditworthiness is to compare two sets of numbers.

The first set of numbers to compare is the ratio of the company's current assets to its current liabilities. This is called the current ratio. If the current liabilities are greater than the current assets (in other words, the ratio is less than 1:1), the company is probably not a good credit risk. Anything over 2:1 (in other words, the current assets are at least twice as much as the current liabilities) is a sign that the company is probably a good risk. Anything between 2:1 and 1:1 and you should probably seek more information.

The second set of numbers to compare is the company's total equity to its total debt. This is the debt-to-equity ratio. If the total debt is more than the total equity (in other words, the ratio is less than 1:1), you should be careful. This is especially true for smaller companies. It is not uncommon, however, for larger companies to carry more debt than they have equity.

Income statements and the previous years' financial statements are generally not as helpful as balance sheets. But if you can get your hands on statements for the past three or four years, you should be able to get some feel for how the company has been doing by comparing the numbers. If income is on the rise during those years, the company is growing and it may be a good credit risk. If not, perhaps you should be hesitant to extend it credit.

Credit references. Businesses can also give you credit references. But let's realise up front that credit references are, for the most part, worthless. If you ask for a reference, which names and numbers will a potential creditor give you? It'll give you only those references who will say good things. The only value to these references, then, is if you call a credit reference and they give you negative information about the business (or say they never heard of it). In that case, you know that the company's credit isn't any good, if their best references have bad things to say about them.

A possible alternative is to find out on your own who else they do business with and ask those companies about them. If you have salespeople, they are often a good source of information about who else the company does business with.

Note: If you get a call for a credit reference on someone else, be careful what you say. Don't give any opinions. Tell them only the amount the customer owes you, the current amount due, and the amount that is 30 days, 60 days, or 90 days past due. In short, give them only what they could get if they saw a statement you sent to the customer.

How Much Credit to Offer?

Your decision on how much credit to offer will be largely based on a combination of your gut instincts (is this person or company likely to pay me back?) and trial and error. A good rule of thumb is to start with a small amount of credit and make your customers earn their way to higher limits.

When we talk of determining how much credit to extend to your customers, we're usually talking about how much credit to extend to your business customers. Most of your individual customers will be paying by cash, cheque or credit card.

Extending a line of credit to your business customers means that you'll have two more decisions to make: how much of a credit line to extend ($200? $500 $1,000?) and which repayment terms to impose on them (30 days? 60 days? Interest on the unpaid amount? How much interest? Discounts?).

There aren't any hard-and-fast guidelines for determining how much credit to extend to your customers. But here are a few suggestions that might help you with your decision:

- Start small, particularly if your credit checking reveals that the company may be having financial problems. Depending upon what you're selling, you might start with a $100 credit line with payment to be made within 10 days.

- Make your customers earn higher credit limits and better terms.

- Don't assume that everyone is entitled to the same level of credit.

- If you're leery of a particular customer, keep the credit level low until they prove themselves to be credit-worthy.

- Reward your best customers with higher credit limits or more favourable terms. You'll come to appreciate them.

- Also, if you end up with some customers who don't pay on time, your good customers may be the only thing between you and insolvency.

- Don't presume that larger companies are necessarily better at paying their bills than smaller companies. In other words, don't give a company a higher credit limit or better terms than you otherwise might just because it's a "name" company.

- Also, don't forget that the bureaucracy at most large companies can make debt collecting an extremely time-consuming process. Of course, if you want the large company's business badly enough, you may have to give in to their payment cycle. For example, if your terms are 30 days, but the large company pays its bills on a 60-day cycle, you may be forced to accept the 60-day terms. A large company is generally not going to change its payment cycle just for you.

- Don't hesitate to reduce a customer's line of credit or shorten the terms if that customer begins to be late with its payments. If you reduce the terms, however, you must inform the company before its next purchase. You cannot inform them of a change in your policy after they've already purchased your goods or services. Thus, if you have salespeople, you should tell them about your policy changes so that they can inform the customer.

- Your credit policy should be coordinated with your business needs, particularly with your cash flow needs. You've got your own bills to pay. You need to figure out how much you need coming in each month, and your credit policy should be designed to deliver enough income for you to meet your business needs.

Improving Your Collection Cycle

Collecting overdue accounts is, for many small business owners, the most unpleasant task of all. The task is unpleasant for two main reasons: because keeping track of which accounts are overdue can be so difficult and because most people don't enjoy pressing others for money.

While this book may not be able to make debt collection pleasurable, it can make it a whole lot less painful. It will do this by showing you how to keep better track of your overdue accounts and by suggesting ways you may be able to improve your collection techniques.

Organisation. That whole process of identifying overdue accounts and taking steps to collect your money is called your collection cycle. The best place to start improving your collection cycle (or, if you're just starting out, to build an effective collection cycle) is to get organised. Probably the most common reason why collections get out of hand is poor organisation. If you have a lot of customers buying on credit and they buy from you throughout the month, each with different terms, keeping track can be extraordinarily difficult. However, there are a number of software programs on the market that can greatly simplify this task.

Tracking overdue accounts: the key is to develop an effective means of knowing when accounts come due and being able to keep track of who pays their bill and who doesn't. This is half the battle.

When to call your lawyer: once you can keep track of your accounts, the next step is to set up a system for determining which accounts to handle yourself, which accounts to turn over to a collection agency and which accounts to send to your lawyer (you don't have to use all three; you can handle everything yourself, if you want to). Lawyers, though often effective, also can be expensive. You'll have to determine which is the most effective way for you to get the money owed to you.

Paying lawyers and debt collectors: generally, either of these collection experts will require a percentage of any debt they collect.

Streamlining your tactics so that you don't waste time, effort and money: a lot of collections experts will tell you that you need to start your collections process with a series of letters that grow ever more threatening.

They'll tell you that if your customer fails to respond to, say, the seventh letter, you turn the account over to your lawyer. But as a small business owner you may not have the time (not to mention the patience) to send so many letters to so many people. Also, keeping track of which letters have gone to which customers just adds another layer of complexity to the process.

Avoiding the legal pitfalls: If you collect your own debts, you'll have to tiptoe around several laws that protect consumers from certain debt-collecting practices that are considered overly burdensome or unreasonable. If you collect primarily from other businesses, you won't have as many concerns.

Dealing with uncollectable debts: When should you throw up your hands and declare a debt uncollectable? if a debtor seems to have left town, there are ways of tracing him or her. But if the debtor declares bankruptcy, you may be out of luck.

Follow these basic rules, and you'll soon be behind the wheel of a well-oiled, fine-tuned collection machine.

Tracking Past-Due Accounts

In accounting-speak, a debt someone owes you for goods or services you provided to them is an account receivable. Accounts receivable are part of your assets. They represent the amount of money owed to you by your customers and they have value to you.

Of course, in reality they are valuable only if you're able to collect them and if you're going to be able to collect them, you'll have to develop a system for keeping track of them. Your system must include a way of keeping track of accounts and of producing what is called an accounts receivable aging report.

Once you've figure out how you're going to keep track of accounts, your next step will be to decide when you want to begin collection efforts. Will it be the day after the bill is due, a week or a month?

The answer will depend upon a couple of factors. First, it will depend upon who the customer is. You're probably not going to crack down on your best customer if the payment is one day late. If, however, the customer is a regularly late payer, you may want to treat it as overdue right away (as well as reconsider whether you should be extending credit to that customer).

It will also depend upon the size of the balance. If the balance is especially large, and you're dependent upon the payment to meet your own obligations, you may want to treat it as overdue one day after the bill is due. If, however, the balance is especially small, you may not want to treat it as overdue for several weeks. You'll just have to ask yourself whether your time is well spent chasing after small accounts.

Accounts receivable aging reports. An accounts receivable aging report is really just a fancy name for a piece of paper (or, if you prefer, a computer screen) that tells you which accounts are past due, and by how much.

There a couple of ways you can go about generating an accounts receivable aging report. Far and away the easiest and most effective way is to buy a software program built specifically for that purpose and that generates reports automatically based on your credit sales records. Most basic bookkeeping software for small businesses will be able to generate such a report. You should be able to buy the software for about $100 - $300 in the business software section of any software shop. It's well worth it.

If you don't use a computer or if you'd prefer not to use software for that purpose, you can produce an accounts receivable aging report by hand. This method involves three processes. The first is to create some written record of the account, such as an invoice, which includes the customer's name, the date of purchase, the amount of purchase, etc. These can be organised in a series of folders or note cards. It doesn't much matter how you do it; it just matters that it's well organised. Generally duplicate records are kept and they are organised both by customer and date.

The second is to create some method for reviewing the accounts periodically. For example, you might want to see your 30-day accounts 35 days after the sale, your 60-day accounts 65 days after the sale, and so on. If you have a secretary, you could assign the task to him or her. If you don't, you could keep track on your office calendar. You should be careful to spread out your account reviews. If you don't pay close attention to what you're doing, you'll end up with 20 files to review on one day and none the next. You can avoid that problem by being flexible on your reviews: some 30-day accounts get reviewed after 33 days, others after, say, 37 days, and so on.

The third is to coordinate your account files with your ledgers or with whatever system you're using for keeping track of sales and recording payments. If you're to review an account, you certainly want to know whether it's been paid.

When to Call Your Collection Lawyer

At this point in the process, you've set up your system for keeping track of your accounts and you know pretty much when you're going to begin making efforts to collect past due accounts. The next question is, who is going to collect the accounts? In other words, are you going to do it yourself? Will you use a collection agency? Will you use a lawyer?

Generally, doing the collecting yourself is the least expensive of the three choices, while having a lawyer do it is the most expensive. But when working out the cost, don't forget to consider the value of your time to the business. If you do it yourself and it ends up taking up so much of your time that your business suffers then it could be the most expensive approach. Also, while doing it yourself is usually the least expensive approach, it's also usually the least effective. Hiring a lawyer to do it is usually the most expensive and the most effective.

A good way to tackle the problem is to decide ahead of time how past-due accounts will be handled. One approach is to base your decision on the amount of the past-due account.

Note: For example, you could set up the following:

- All past-due accounts under $50 get written off.

- All past-due accounts between $50 and $500 are collected by you.

- All past-due accounts between $500 and $1,000 are turned over to a collection agency.

- All past-due accounts over $1,000 are turned over to your lawyer.

The levels you choose may vary, depending upon the type of business you're in and the size of your typical transaction. This approach, however, creates at least two potential problems. First, what do you do with smaller accounts that you can't collect? If you're unable to collect one of the $50-$500 past-due accounts, do you at some point turn over the account to your lawyer?

Second, suppose your lawyer's fee is a third of what he or she collects. Suppose you turn over a $3,000 past-due account that your lawyer is able to collect with one phone call because your customer misplaced the bill. If you automatically turn over all accounts above $1,000 to your lawyer, are you possibly throwing money away? Also, are you alienating your larger customers by having a lawyer contact them right after the bill is due?

One possible alternative is to set up a system based on time rather than on amount.

Note: As a second example, your system could be set up as follows:

- Past-due accounts no more than 90 days old are collected by you.

- Past-due accounts more than 90 days old but no more than one year old are turned over to a collection agency.

- Past-due accounts more than one year old are turned over to a lawyer.

While this approach solves some of the problems created by the first approach, it also raises new problems. First, it commits you to spending at least some of your time on all of your accounts, which could be enormously time-consuming if you typically have a lot of past-due accounts. Second, the transition of the accounts from the collection agency to the lawyer after one year can be troublesome. If the lawyer is able to collect the debt, is the collection agency entitled to anything for its nine months of work?

Perhaps the best approach would be to combine the two.

Note: As a third example, your system could be set up as follows:

- All debts will be collected by you for 30 days after they're past due.

- After 30 days, all past-due accounts greater than $1,000 will be turned over to your lawyer. You will continue to collect all other debts.

- After 60 days, all past-due accounts of between $500 and $1,000 will be turned over to a collection agency or to a lawyer.

- After 90 days, all past-due accounts under $500 will be turned over to a collection agency.

This approach, as you can imagine, could be difficult to keep track of. If you believe it would be too difficult to track, you should go back to one of the previous approaches.

Streamlining Your Collection Tactics

If you're going to spend any of your own time collecting past-due accounts, you should make the time count. As anyone who has ever collected debts will tell you, debt collecting can involve a lot of wasted time. The key will be to minimise your wasted time so you can maximise your results.

The tactics that you will use to collect past-due accounts will vary, depending upon several factors such as your relationship with the customer and the reason for non-payment.

Conventional wisdom holds that you start your debt collecting with a letter gently reminding the customer that the account is past due. That letter is followed up with still more letters, each one becoming a little more threatening than the previous one. After the sixth or seventh letter, you've threatened them with collection agencies, lawyers, and lawsuits. Sometimes it works, but most often it doesn't.

The problem with this approach is akin to the problem faced by the little boy who cried wolf once too often, and it illustrates a debt-collecting truism: a letter is not a particularly effective collection technique. Most people know how the game is played. They know that if they receive the gentle reminder, they still have a few letters to go before they have to get serious about paying the debt.

Note: If you want to start with a letter, consider paying a lawyer to write it for you. You can probably get one to write it for you for no more than $60-$85. The letter should say something like "I've been asked to contact you...." It cannot say "I've been retained by..." because that's not true. You're just paying the lawyer to write the letter; you're not hiring him or her — at least not yet. However, the lawyer's letterhead serves to show the debtor that you are serious.

Letters are the least effective technique because they can be so easily ignored and because you have a relatively limited opportunity to exchange information with your customer. If letters are the least effective method, then personal visits are the most effective. Telephone calls fall somewhere in between.

The actual combination of approaches that you will take — letter/phone call/visit/lawyer/collection agent/yourself, etc. — will probably vary from customer to customer and will depend upon factors such as the location of your customers, your relationship with your customers and your business needs.

Factors Affecting Your Technique

Although there are general guidelines you can follow in collecting past-due accounts, you will need to modify those guidelines to fit your particular needs. Here's a look at the most important factors you'll need to consider when modifying the general guidelines.

Your relationship to the debtor. If you decide to collect your past-due accounts aggressively, such as by having a lawyer write a letter for you as soon as the account is past due, you may have to take a less aggressive approach for certain customers. You may have to ease up, for example, on personal friends, customers with whom you work especially closely or particularly important clients. If you have a single customer who provides, say, 80 percent of your business, it hardly makes good business sense to threaten him with a lawyer, especially if he can obtain what you provide elsewhere. (Of course, if that customer isn't paying any of his bills, you may have no choice.)

Reasons for non-payment. Your tactics should also be modified to reflect the reasons why your customer has not paid your bill. If your customer lost the bill while moving to a new office, and would pay it if he had it, you don't want to risk alienating him by threatening him with a lawyer. On the other hand, if your customer's reason is unsatisfactory ("I just didn't feel like paying it."), you can dispense with the niceties and become even more aggressive.

These examples illustrate one of the big advantages of personal visits and telephone calls over letters. With a personal visit or a telephone call, you can more easily find out from your customer why the bill hasn't been paid.

Your financial situation. If your cash flow depends upon a particular customer paying his bill promptly, you may have no choice but to be aggressive right from the start, even with your most important customers. After all, what's the point of not offending your customer if his failure to pay you causes your business to go under?

Here's a series of collection tips that may help you improve your technique:

- Whenever possible, do your debt collecting in person. If that's not possible, do it by phone.

- Write a letter only if neither of the other two options are available to you.

- When you contact customers, don't hand them an excuse ("Did you receive your bill?"). It's better to ask them, "When was payment made?" If they tell you it hasn't been made, ask them if they intend to pay it today. If they say "no," ask them when they have scheduled it to be paid.

- Get a commitment from them.

- If they haven't scheduled it, ask them if they intend to pay the bill. If they say "no," ask them why. Once you have the reason, hang up or walk away. If you continue the call or visit at this point, you may be crossing over into harassment. You can wait a day or two and call back to confirm the customer's position, but don't call or visit more than twice if they say they don't intend to pay the bill. At this point, it's time to turn to a collection agency or lawyer.

- If you ask your customers if they intend to pay their bill, and they say "yes," you should continue the discussion. Ask them why they haven't paid it. They'll give you either a reason or an excuse. In either case, get a firm commitment from them for when they can pay you. If they give you an excuse ("I can't pay you until my customer pays me"), don't respond emotionally. Use logic instead. Ask them for a definite commitment and a time frame in which you can expect to receive payment. Make sure that you agree on all the details, including when, how, and where the money will be paid ("I'll deliver a check to your place of business on Monday"). If they give you a reason ("The goods you delivered to me were damaged"), try to remedy the condition, if it's within your control. For example, if you agree that the goods were damaged, see that the customer gets undamaged goods. If they refuse to give you a commitment ("I'll put you on the list to get paid"), you'll have to review your options. In some cases, you can force a commitment by taking away their credit on future purchases. In other cases, your only two options are to turn it over to a lawyer or turn it over to a collection agency. (There's actually a third option, if you're interested: bringing suit yourself.)

- If you deal with large companies, you need to get in tune with how they pay their bills. Find out from them when the last day is for getting an invoice approved to get into this week's (or fortnight’s or month's, depending upon how they pay their bills) check run. When you need to collect from them, call a couple of days before that date to make sure that they have all the documentation from you that they need.

Tip: If you do business with the government, consider taking a government-sponsored seminar on how to get paid.

- If you have a problem with payment from a large company, the person you need to talk to is the one who is responsible for buying your goods or services (perhaps in the purchasing department). If you have a salesperson, ask who he or she deals with. Don't allow yourself to be sent to accounts payable. Your best leverage is to threaten to withhold your goods or services if payment is not made. While the purchaser may respond to that threat, the accounts payable person almost surely will not.

Tip: If possible, you may want to call your customers who pay you on time and thank them for doing so. The call may solidify your relationship with them.

Collection Scenarios

Here are a series of scenarios illustrating how a collection process might be organised. Your actual process should be modified to reflect the time you have available for collecting, your relationship with the debtor, the patience you have with a particular debtor, your cash flow needs, etc. These scenarios are designed to speed up the typical collection process.

Scenario #1: A few customers, all of whom owe large amounts (say, more than $1,000)

Start with a telephone call to each customer once the account becomes past due. If that doesn't work, take one of two approaches. Either pay a lawyer to write a letter for you that says "I have been asked to contact you..." (it shouldn't cost you more than $60-$85) or write a letter yourself that notifies the customer that you will turn the account over to a lawyer if it is not paid within the next billing cycle. If that doesn't work, turn the account over to a lawyer.

While these steps sound simple, the actual execution of them never is. For example, you'll call a customer and the customer will express shock that the bill hasn't been paid and will promise to pay it immediately. Since you believe him, you hold off on sending the letter. The billing cycles pass and still no payment. You send out the letter and he calls you to explain why the bill hasn't been paid. He keeps calling and putting you off. You have sympathy for him and before you know it, six months pass, you still haven't been paid and the file hasn't been sent to the lawyer.

It's never easy to know when to put your foot down. When and whether you do it will depend on your relationship with your customer and how much you need his business. But don't ever forget that it's your money he has.

Scenario #2: A lot of customers, all of whom owe small amounts

The first step you take will depend upon how many past-due accounts you have. If possible, you should telephone each one of them. If there are too many customers to call, you should send a letter. You have two choices with the letter: either write it yourself or have a lawyer write it for you.

If you write it yourself, you'll have to use your best judgment about what to put in it. You don't want to waste your own time with a series of letters that don't produce any results. So you want to send a letter that gets their attention and accurately conveys your wish that they pay their bills. But, on the other hand, you don't want to alienate some of your customers with an unnecessarily threatening letter. Some of your customers need to be threatened, while others just need to be reminded.

When Is a Debt Uncollectable?

A lot of small businesses decide not to turn over past-due accounts to a lawyer or a collection agency until they've exhausted all the means at their disposal to collect the accounts. But how do you know when you've reached that point? When does a debt become uncollectable?

Here are some guidelines you can use for determining when a past-due account should be turned over to a lawyer or a collection agency (assuming you want to take that step):

If the customer tells you he or she has no intention of paying the debt and you can't do anything about the "why" (for example, the customer won't give you a reason why), you've reached the point where you need to turn the account over.

Skip tracing: if the customer disappears or ceases doing business, you still have an option left: hire a professional skip-tracer. If the skip-trace turns up nothing or turns up information that leads you to believe the account is uncollectable, you should turn it over.

Bankruptcy: if the customer declares bankruptcy, you have to stop your collection efforts. You should at this point discuss your options with a lawyer.

If the customer gives you the appearance of wanting to work with you, but never seems to come across with any money, your decision is more difficult. The best way to approach it is to place a deadline on collecting. For example, you could decide to turn over to a lawyer or a collection agency any account more than 120 days old.

If the customer is one of those people who pays you just enough of the debt to keep you off of his back, but who never gets around to paying you in full, you have another difficult decision. On the one hand, if you turn the account over, the customer may stop paying you anything. But on the other hand, unless you turn it over, you're probably never going to be paid in full. One way to approach this problem is, once again, to place a deadline on collecting, but this time to make it a bit more generous than in the previous example. In these cases, you could decide to turn over to a lawyer or a collection agency any account that hasn't been paid in full for more than 160 days.

Skip-Tracing

Skip-tracing is the process of tracking down someone who owes you money. When an individual skips out, he or she generally moves away to another city, to another state or to another country. When a corporation skips out, it generally ceases to exist.

When to skip-trace. You should consider running a skip-trace as soon as you see any sign that the debtor may have disappeared, such as your mail being returned or the debtor's phone being disconnected.

Who to contact. There are professional skip-tracers. To find one, look in the Yellow Pages under "skip tracing" or "private investigators." It'll cost you about $60 per skip-trace, so don't skip-trace an account unless the dollar value is high enough above that figure to justify the trouble. The skip-tracer will ask you for any identifying information you have, so be prepared to provide as much as you can.

Tip: In some cases, a skip can be unintentional, such as where someone moves and forgets to tell you. To save yourself the cost of an unnecessary skip-trace, consider doing some minimal skip-tracing yourself. If it's an individual you're after, look in the phone book (most skips travel no more than 200 kilometres away) or in voter records (they have to be kept up to date so a person cannot vote twice). If it's a corporation, check building permits and industry associations.

Contrary to what you might think, finding an individual is usually easier than finding a corporation. Individuals will almost always leave a trail of records wherever they go. They'll inevitably use credit cards or ATM cards again, or they'll take out a loan or register to vote. You can almost always catch them.

But corporations are a different story because a person can dissolve a corporation one day and reappear in a new corporate form almost the next day. Since the old corporation no longer exists, your only hope is to be able either to go after the individual or individuals behind the old corporation or to go after the new corporation with the argument that the new corporation and the old corporation are one and the same (called, in legal circles, piercing the corporate veil). Incorporation laws, however, are specifically designed to provide protection to the individuals behind the scenes, so it won't be easy. If you run a skip-trace and you discover that the individuals behind the old corporation have reappeared under a new name contact your lawyer and discuss your options with him or her.

Tip: If a corporation dissolves, it has to file a document with the state affirming that it has paid all its debts. If the corporation still owes you money, that statement is obviously untrue. When discussing your options with your lawyer, ask him or her about the possibility of contacting your state Attorney General to pursue this option.

Allowance for Bad Debts

The purpose of making an allowance for bad debts is to try to guess the total amount of bad debts that you're likely to incur during the tax year. You do this by calculating the bad debts as a percentage of your sales.

But which percentage should you use? If you've been in business for a few years, you can look at your own experiences to determine a percentage.

Example: The Levi Stous Company has been in business for three years. In those three years, it has experienced the following:

Sales Bad debts % of sales

Year 1 $36,000 $880 2.4

Year 2 $52,000 $1020 2.0

Year 3 $83,000 $1360 1.6

Totals $171,000 $3260 1.9

In Year 4, the Levi Stous Company should use something around 2.0% as its bad debt allowance.

If you're just starting out, you'll just have to make a guess. Start out with something around 1.5 percent or 2 percent, and adjust it in the following years as your actual experience dictates.

Getting Paid What You’re Owed

Are your clients using vendor capital to finance their expenses or businesses? Vendor capital's only similarity to venture capital is that it comes from outside. When a customer puts off paying your account for 120 days, you are making a four-month interest-free loan you can ill afford. Even worse, it becomes an outright grant if you, the vendor, aren't able to collect at all.

When customers are squeezing extra weeks and months out of their payables, developing an efficient and effective debt collection system is of utmost importance. This is particularly true during economically slow times when even the steadiest and most reliable customers may be experiencing cash flow problems.

"But wait a minute," you say. "When cash starts flowing again, I don't want to find myself without any customers." That's a fairly common sentiment. Fear of offending those who were once consistent buyers holds back many collection efforts. Entrepreneurs inadvertently become vendor lenders when they are reluctant to press for payment out of concern that their clients will find more amenable suppliers.

To solve this dilemma, you need a thoughtfully developed and executed approach to the three phases of debt collection.

Phase # 1: Prevent collectibles from becoming overdue.

- Review your customer accounts each month to quickly identify those that are occasionally, or even chronically, late.

- When you notice that an account is overdue, make sure the company was billed, the goods went out, and no problems arose when the order arrived.

- Send out invoices the day shipment is made or the services are completed. Many businesses unwittingly create their own cash flow problems by not mailing invoices for a week or two.

- Mail invoices to specific individuals rather than to companies. Poorly-targeted bills can get caught in a mailroom shuffle for days before reaching the right desk.

- Track receivables from the first day invoices go out. Businesses with a large number of clients should be using automated software for their invoices and accounts tracking. If you have only a few clients, track them on an "aging" or control sheet.

- Shorten the preliminary credit period from 30 days to 15 days or less. While a 30-day term may be common, it's certainly not mandated. Find out if any of your competitors have reduced their terms to 15 days or C.O.D. or if your prices, delivery dates or some other aspect of your service would make shorter terms acceptable to your customers.

- Most customers assume they have 30 days before they need to cut a cheque, which means as many as 45 days may elapse by the time you receive it. You must tell customers if payment is due earlier. Be sure to also consider the persuasive power of discounts and - using the reverse strategy - interest charges.

- When work is to be customised, ask for a deposit and explain that the balance is C.O.D. or set up terms with half due upon delivery and half 30 days later.

- Avoid falling into the trap of feeling that your customers are friends who can expect unlimited credit. Even if you socialise after hours, in the business relationship your obligation is to provide a quality service or product and their obligation is to be sure to pay you on time.

- Forty-five days after the invoice date, call and find out why the account hasn't been paid. Use a "customer service" approach: "As your cheque hasn't arrived, I wanted to make sure nothing was wrong with the order." This accomplishes several things. You'll find out if orders weren't correct, remind customers that accounts are overdue and let them know you watch receivables very closely.

- Make a "customer service" call to chronically late clients the day their orders go out. "I wanted to let you know your goods have just been shipped. Could we speed up payment by sending the invoice to a particular person?" This prompts faster payment because it ties payment to customer satisfaction at having the order filled promptly.

Phase # 2: Collect overdue accounts before they are seriously late.

- Phone calls have proven significantly more effective than letters, particularly if you make a point of calling customers about outstanding invoices within a day or two of their becoming overdue.

- Make phone calls or send out reminders twice a month, rather than every 30 days. Although it costs more, you definitely get a lot more back.

- Blame your accountant, your business manager, or even your mother-in-law, but stop giving credit to debtors who are overdue. Say, for example: "I hate doing this, but our bank insists that once accounts are overdue by 90 days, all orders have to be C.O.D. As soon as you pay off some of this overdue amount I can give you credit again, but until then my hands are completely tied."

- As accounts age, increase the frequency and urgency of your calls and letters. Press, in the nicest possible way, for payment without any further delay. Most businesses wait twice as long as they should for payment. You should know whether or not you are going to get paid within nine to 12 weeks. Waiting any longer is asking for trouble economically.

- If you cannot persuade a customer to pay, give the account to somebody who can. Collection agency personnel have heard every possible excuse and have appropriate responses ready. They are trained to look for assets that may not be obvious, so they can sometimes obtain payment from debtors you believed were unable to pay. Collection agencies are most successful when the account has been overdue weeks rather than months, and the debtor has been treated with courtesy.

Phase # 3: Collect delinquent accounts or cut your losses.

- When it's clear that the customer won't pay without a significant change in circumstances, you must decide if the account is worth any more of your time and resources. It's not uncommon for business owners to get so angry at not being paid that they become determined not to let the debtor off the hook. Don't let your emotions block an objective assessment of whether it's worthwhile to continue your collection efforts.

- The simplest way to apply legal pressure on a debtor is to file in Small Claims Court (SCC). The amount you can sue for in SCC varies depending on where you live.

- The most important thing you can do to ensure the success of your SCC action is to document every piece of communication you had with the debtor, from the initial order to each of the delaying tactics employed. If you have written confirmation of the customer's acknowledgment of the debt, so much the better.

- If your documentation is good, and the defendant has admitted to owing the amount, you can probably send an employee to the SCC hearing to represent you. However, they should have knowledge about all aspects of the case that might be argued. If your case is weak, you as the business owner should be the one to attend.

- Usually you can recover out-of-pocket expenses that are part of the SCC process, such as filing fees, but you will not receive compensation for such things as time taken off work or photocopying expenses.

- Winning your case is not the same as getting paid. The court does not enforce its judgements and collect money for you. Start with a polite note requesting payment and if that doesn't work, talk with your SCC clerk about the options available in your state.

- If, instead of suing, you decide to stop further efforts to collect the amount owed, keep the door open with a last call to say: "Pat, I realise things are tough and you are fighting to save your business. I want you to know I'm not going to pursue this bill any longer. If and when you can pay it, I trust you to send me a cheque, but until then we'll forget it ever existed. Meanwhile I'll continue to supply you on a cash-only basis."

The Psychological Approach to Debt Collection

When people or companies are stretching their credit to the limit, it can be difficult to judge which have the savvy to pull through and become excellent customers again and which will go under leaving many unhappy creditors behind. Since your business is at risk if you don't go after money you are owed, you need an approach that will effectively reduce your debtor load while conveying your sincere concern for your customers' well-being and your willingness to serve them.

How you deliver a message is as important as what you say when dealing with particularly sensitive issues such as overdue accounts.

Rely on good communication to soften the blow of frequent calls that steadily increase the urgency of their "you must pay" message. The following scenarios demonstrate an approach to effectively dealing with recalcitrant accounts.

If you are afraid of alienating somebody who has been a good customer, blame a third party such as your CPA.

"I would really feel terrible if anything I said offended you, because you've been a good customer. I know times are tough right now, but I have to say that I want you to pay what you owe us. My business manager requires that we don't let accounts go over 40 days (even for a good friend or family member)." These statements even work with people who say exactly the same things to their own customers.

Get a commitment.

Your best clients, who are as hassled by late payments as you are, usually try to put you off until their cash flow increases, or a specific cheque arrives. The best approach is to acknowledge the situation and deal with the feelings, then help your customer come up with a solution.

"George, I understand what you are saying. Many of our customers are feeling pressured right now. They have a lot of bills to pay, and it's a stressful time. But I'm going to have to ask you to put off some of your other creditors, because if we are going to continue to do business, particularly when the economy is slow, we have to get paid.

"What we need, George, is at least 50 percent today, and another cheque for the balance that's good two weeks from now. Of course I'll call you three days prior to the date on the post-dated cheque to make sure it can be cashed."

A post-dated cheque is one of the most effective ways of getting people to commit to payment and they are good 98 percent of the time. Remember, however, that it is a very good idea to ask if such a cheque is good before depositing it.

Don't settle for a vague promise.

A less-than-good customer is more likely to put you off with a vague promise or try to stall for time. Be ready with a response. "The end of the month isn't going to work. Frankly, we need to have the cheque sent today."

Any company, large or small, can cut a manual cheque. You don't have to be a victim of the payment schedule, if the customer tries to use this to put off sending the money owed.

Nail down the promise.

If somebody says, "Yes, I'll send you a cheque," assume it will be sent that day and respond with: "Great, today is the 10th so we should get your cheque on the 13th. I'll mark that on my calendar, so I'll be sure not to miss it."

Keep the conversation friendly, let the customers know you'll be looking for the cheque and give them the benefit of the doubt - once.

Nail down the second promise.

If the money doesn't arrive on the 13th as promised, don't wait until the 14th or 15th to take action. Immediately call and say: "George, we didn't get the cheque you said would be sent on the 10th." Most people will give you some excuse, accept this because one broken promise is understandable; anyone can overlook something.

If the customer makes you another promise, nail that down as you did the first time: "O.K., please do send the money. It's important we have the cheque this week. It should arrive by the 16th so I'll mark my calendar again. Do address the envelope to my attention so I'll see the cheque as soon as it comes in. Thanks."

Deal directly with the stall.

If the cheque hasn't arrived by the new date, take an even firmer but still friendly approach, keeping in mind that two broken promises in six days is not a coincidence. "Hi, the cheque you said you were going to send us a second time didn't arrive either...Well, if you write the cheque today, we should have it by the 19th. If we don't have it by then, I'm sorry to say, my hands are tied. We're required to turn it over to collection immediately on the 20th. I'd hate doing that to such a good customer, but I'll have no choice."

This stance gives the customer a very clear choice - with a warning not a threat - to pay or something unpleasant will happen. Stay friendly, say you much prefer to work things out with your customers, especially good customers, but don't give them any more time. Remember, in this instance these are not good customers; they are debtors who are taking advantage of your generosity and niceness.

It's in your attitude.

People always have some money, so debt collection is negotiation. We’re not suggesting that businesses be hard-nosed or insensitive but you should recognise that a game is being played. Don't let the accounts sit there; get on the phone today. Even good customers sometimes need to be prodded. While you won't be as pushy with these customers, if you ignore their delinquency the likelihood of your getting paid diminishes. When customers are deciding where to spend their limited dollars, and they know you are watching the account, the squeaky wheel does get the grease.

Using a Sound Policy to Minimise Bad Debts

Credit management for most small business owners means allowing customers to purchase goods on an open account in expectation of significantly increased sales. Unfortunately, some entrepreneurs don't realise that good credit management should go much further.

The first step in preventing bills from becoming overdue is to have a written policy detailing how accounts are going to be paid, made available to all customers prior to doing business. This policy should describe how credit will be managed, how and when you will be paid for your product or service and what the consequences of non-payment will be. Also cover the interest that will be charged and the point at which the unpaid bill will be turned over to collection or taken to Small Claims Court. It's most important that you include the consequences for not following the policy.

The following 20 points will help you to set up a sound credit policy.

1. Before setting your credit policy, find out what your competition is doing and what your customers expect. Get this "street" information from your sales staff; they know their customers' credit concerns and are most likely to know what the competition is offering.

2. Have a public credit policy that your customers receive, and a private credit policy to guide your staff's implementation. The private policy will cover such things as when credit limits can be increased and the details of your credit collection process.

3. A uniform and consistent credit policy treats all your customers equally, but not necessarily the same. For instance, everyone whose account becomes overdue will be contacted to find out what went wrong and will be helped to find an individualised solution to the problem.

4. Educate your staff about the details and importance of your credit policy. The more committed your employees are, the better they will make it work. Everyone should understand that ultimately their incomes depend on satisfied customers who abide by the credit terms you have established.

5. Set credit limits to minimise your exposure to loss. New accounts should be given the minimum amount of credit that's practical in your business. Be cautious in extending credit to people or companies whose credit records indicate past payment problems or irregularities.

6. Regularly review your customers' payment records and increase credit limits as appropriate so that you and your clients mutually benefit from building long-term relationships.

7. The "standard" credit application forms sold by stationary shops are usually inadequate. Many have no place for the applicant's signature and few cover such things as recovery of interest, court costs and lawyer's fees that protect you, the creditor.

8. You need a detailed credit application customised to your business and reviewed by your lawyer. Your trade association may have a particular credit application it recommends. Print your credit conditions and terms on the back and be sure the applicant signs it.

9. Clearly convey when you expect to be paid. Goods should be shipped and invoices mailed within 24 hours of the invoice date. In addition, invoices should clearly state when payment is due, whether an early-payment discount may be taken and what finance charges (if any) will be imposed for late payment.

10. Customers who are short of cash tend to pay bills that carry finance charges first. Even if you never enforce the finance charges, seeing that there will be a consequence for not paying on time reduces slowness. The most typical finance charge is 1.5 percent per month after 30 days, which equals 18 percent a year.

11. Customers, especially those short of cash, are always motivated by saving money. Offering a discount for prompt payment, or for cash in advance, will be offset by what you save in collection costs.

12. If you do business with customers outside your country or state, your credit application/agreement should require that any litigation be filed in your city. This helps limit your legal expenses.

13. Commercial credit applications should request legal identity (partnership, corporation or sole proprietorship) and number of years in business. If you require owners, or key officers of a corporation, to guarantee payment of the account, be sure to obtain their names and home addresses as well.

14. Consumer credit applications should include the name, address and phone number of the applicant's employer, length of employment, length of current residency and whether the applicant rents or owns.

15. Ask for at least three trade or personal references, with contact names, phone numbers and addresses, as well as the names and phone numbers of banks and specific account numbers. If the applicant is a tenant, include the name, address and phone number of the landlord.

16. Twenty minutes spent evaluating a customer's creditworthiness could save you hours, and dollars, in trying to collect bad debts. Call all the references provided and verify the information given. Checking with credit reporting services is also advisable.

17. Check each applicant's name, address, phone number and bank account information against a record of debtors you have dropped or refused credit to in the past. The worst credit risks won't hesitate to disguise their identity with a different name or address, but there's often some matching information that suggests they should be checked further.

18. Give each account a copy of the credit application - now a credit agreement - showing the approved credit limit and highlight the statement indicating that in signing the form the applicant agrees to the printed conditions.

19. The final step in reducing your collectibles is to talk to your customers prior to actually doing business. Show them the policy and ask if they have any questions about it. Explain what isn't clear to them and draw attention to those points you know from past experience can be overlooked or misunderstood.

20. Remember, the purpose of your credit policy is to minimise bad debts and collection problems, not eliminate them entirely. If you reduce your bad debt losses to zero, your credit policy may be so stringent that you are missing out on significant sales - and profits.

9 Non-financial Factors That Can Turn Your Credit Decision Around

As virtually every credit collector knows, making a credit decision is as much an art as it is a science. The stark financial analysis may indicate that the customer should not be granted credit terms, but there are often other factors to be considered. Here we have collected some of the other factors that inevitably affected the ultimate credit decisions. Here is a brief look at some of the issues affecting final determination.

The 5 C's of credit—character, capacity, capital, conditions, and collateral. One credit analyst revealed that his company routinely sold on open-account terms to a customer whose numbers were awful. The reason was simply that this company always paid its bills and was never late. "I'd rather deal with this customer any day," says the analyst, "than those large companies who continually string us along for payment even though they have the money."

Relationship with the buyer. Several credit managers said that if they had a long-term ongoing relationship with a customer, they were more likely to allow the company to go over its credit limit. However, they also watch the payment patterns quite closely. Most who follow this strategy do it with customers who have seasonal businesses.

The customer's payment history. If it is good, some credit collectors are apt to be more aggressive in finding ways to grant open-account credit terms. However, if it has been bad, most in the group indicated that they would be inclined to reduce the credit line if the sales force didn't squawk too much.

Profit margin on the product in question. Without a doubt, those in the group whose companies sold products with tight margins were much less likely to be flexible when extending credit. "We just can't afford to be wrong," explains one weary credit collector. However, those with wide margins were more apt to stick their necks out a bit and extend credit.

Status of the product. Is it already manufactured and sitting in the warehouse? If so, sales is likely to bring this to credit's attention, especially if the end of the season for the goods in question was approaching or if the product had been moving slowly. At this point, some credit collectors are more likely to get creative to find ways to "make the sale" happen.

Status of sales goals. Is the sale needed to make the budget? Unfortunately, as the accounting period ends, many credit collectors find themselves being pressured to grant credit for sales that don't meet credit standards. Several report that this happens with greater frequency if sales goals are not met.

Role of sales. Will sales be willing to get involved in collection efforts should the customer not pay? While most salespeople are reluctant to get involved with collection efforts, several of the credit collectors indicated that they were able to exact a promise to help in exchange for extending credit in marginal cases. However, most who were able to do this said that they did this mostly with customers who were late payers. The preference of the group was to tie the salesperson's commission to the payment of the accounts receivable but few were successful on that front.

Customer's cooperation. Is it possible to obtain a part payment up-front to cover costs? In cases where the credit of the customer is questionable and the margins on the product high, a number of credit collectors simply ask for cash-in-advance for the portion that relates to the out-of-pocket costs. Then if the final payment is not received, the company only loses its profits. This also demonstrates to the customer a willingness to work together. Several who have tried this approach with new customers said that they were ultimately able to convert these accounts into long-term quality customers.

Mean vs. ends. Can this sale be used to leverage payment on an outstanding order? There is nothing more frustrating to a credit collectors than to be approached by a salesperson to extend additional credit to a customer who is already late paying other invoices. However, should the customer really want the goods, it may be possible to make the sale if the customer agrees to pay the outstanding invoices. Ideally, such a customer should not only pay the outstanding invoices but make a partial prepayment on the new order.

9 Practical Approaches to Rein in a Runaway Sales Department

When asked in a recent survey about their biggest departmental improvement successes within the last year, a few hardy owner/managers admitted they had tamed their sales forces' penchant for selling to any Tom, Dick or Harry. Needless to say, we were curious to see how they did this. Pre-qualification and pro-activity are the secrets to keeping the sales force from selling to customers who do not meet your credit standards. These two themes dominated approaches recommended. Here, however, are all of the approaches that have worked.

Revise procedures. "We worked with the sales group to develop a new process where credit is involved prior to the initial visit with a new customer," says the divisional accounting manager for a midsise industrial goods manufacturer. Companies that don't make the grade at this initial screening will not get a visit from a salesperson. With little time invested in the account, the salesperson is likely to move on to a more acceptable customer.

Pull the relevant Dun & Bradstreet report before the sales call. "This tells us if it is worth the salesperson's time," says the credit manager of a transport company that employs this technique. This approach is similar to the one above and tends to limit sales and credit disputes as the sales force has no vested interest in the potential sale.

Create a credit application. "If you can imagine," says one credit manager, "credit applications were not used in our organisation – they are now!" By insisting on having a completed application, this credit professional was able to rein in "sales staff selling to undesirables."

Make sales responsible for getting the credit application. "We started having the credit application process be part of the salesperson's responsibility," says the credit manager of a consumer goods manufacturing firm. At this company, an order cannot be entered into its system unless a signed credit application is completed. The credit manager says it took a year to get the policy instituted, but it has paid off.

Have a frank talk with sales. A company that found brutal honesty to be the best policy when it comes to dealing with sales staff used numbers to back up its assertions. "We implemented changes through discussion with the sales staff that revolved around numbers and the amount of bad debt written off in previous years," says the credit manager. The sales force got the message, and within 30 days this savvy manager had implemented the changes she needed.

Educate the sale staff. This is a long-term affair. "We are trying to educate the sales staff to the fact that the entire company suffers when a bad credit risk is accepted," explains the manager at an education services company. He says that, as most reading this are only too well aware, the administration associated with monitoring these accounts is considerable. He describes his success as "modest" given that the company is sales-driven.

Get tough. Sometimes you have to hit someone with a two-by-four to get his attention. That's what one national credit manager recommends. "To reduce our potential risk to bad debt, we began to monitor all new business placed on billing in the prior sales month to insure the account received a credit approval and followed credit guidelines," he explains. "During the first three months we required an explanation from any salesperson who violated the guidelines." After that, the company penalised sales by withholding commissions. The approach works. He says that violations are now down to 2% of gross sales. Unfortunately, not every company is willing to use such tactics.

Allow a small sale. The accounts receivable manager at a construction company works with the salespeople to get the sale and the credit application. She allows them one small sale with a returned, completed credit application so the salesperson will not lose the sale.

Pre-qualify, pre-qualify, pre-qualify. This is probably the best way to make sure that the sales that are brought in meet the credit standards set by your company. In order to make such an approach standard, you will have to take the first step—especially if the relationship between sales and credit is a bit frayed. However, once the sales force realises that credit is interested in approving as many sales as possible and is willing to work with sales to make it happen, they will be more receptive to approaching credit. Be ready, be proactive and provide a quick turnaround when asked to pre-approve credit.

Credit managers who would like to restrain their own sales staff when it comes to pursuing questionable credit accounts can emulate some of their peers' successes. They may be surprised to discover that they can get sales "under control." Just keep in mind—it won't happen overnight.

49 Ways to Say 'We Want Our Money NOW!'

The mantra of any good credit collection undertaking is persistent follow-up on all late payments and broken promises. Those who are most successful are the ones who find ways to make their customers sit up and note that you mean business. Here are some of the more innovative ways they achieve that goal. These were collected from a number of professional collection agencies.

1. To be taken seriously, send the follow-up letter by registered mail.

2. When the customer is five days past due, send a follow-up memo. If the invoice goes unpaid for another 30 days, follow-up with a copy of the invoice, a proof of delivery and a phone call.

3. Become "best friends" with the accounts payable manager at the corporate headquarters.

4. Send letters to borderline accounts warning them that they will be cut off if the invoices go unpaid.

5. Visit late-paying customers personally to inquire about payments.

6. Send a friendly reminder notice when an invoice goes a few days past due.

7. Send a follow-up e-mail, including copies of the invoice or statements overcoming possible requests for additional documentation.

8. Bill the customer before the invoice is due and make sure that there are no problems with the invoice.

9. Make a customer service call on the 30th day to make sure everything is all right and that there are no unresolved disputes.

10. Fax copies of invoices to all customers who claim not to have received them.

11. Redesign collection letters shortening the letters and the time between each letter.

12. Increase contact with the owners or senior managers of "known delinquents."

13. Monitor accounts and take action as soon as an account goes past due.

14. Send reminder letters with a copy of the invoice.

15. Have collectors keep detailed notes of all promises made and follow up with customers the moment a promise is broken.

16. Become the squeaky wheel who gets paid first.

17. Set follow-up calls using an automated reminder system.

18. Focus on largest accounts and get them to pay close to terms without letting the smaller accounts get completely out of hand.

19. Begin follow-up efforts earlier.

20. Resolve all disputed issues before the due date of the invoice.

21. Establish consistency in customer contacts. This means that credit, customer service and sales must tell the customer the same thing when it comes to payment terms.

22. Train the sales staff to make collection calls.

23. Put bright coloured collection stickers on invoices and notices.

24. Train the customers from the inception of the relationship. Explain due dates and collection policies to new customers as soon as the first payment becomes one day past due.

25. Establish monthly meetings with account managers to ask for their assistance in the resolution of collection issues with their accounts.

26. Send a note to delinquent customers saying that they are exceeding their credit limit and will need to fill out a new credit application. Most customers do not want to fill out a new application and will simply bring their balance current.

27. Fax customers past-due invoices with personalised handwritten notes on the invoice.

28. Send a "thank you for your business" letter to each customer. Include on the letter a total of outstanding charges. Some customers will pay their bill when the letter is received—even if it arrives before the invoice.

29. Keep notes of contacts with customers available on the computer network. In that manner, anyone discussing orders can quickly see if there are any outstanding credit issues. This approach allows the collection professional to quote who said what and when to the customer. It gets the customer's attention and action.

30. Adopt an aggressive letter campaign. A well-written letter can be more effective than a phone call with some customers.

31. Fax a detailed statement at the beginning of each month to the specified person. Make a follow-up phone call to verify receipt of the fax and balance expected. At this stage, a payment plan can be worked out if one is needed.

32. Review existing collection letters and rewrite them if they are not firm enough.

33. Fax the customer details of their older unpaid invoices.

34. Support the customers' accounts payable staff in its efforts to resolve problems and discrepancies.

35. Anticipate, wherever possible, the customer's needs.

36. Through verbal communication and follow-up calls, train the customer to have good paying habits—at least where your company is involved.

37. Communicate immediately with a past-due customer via an invoice copy and a computer-generated message. Follow this up with a phone call.

38. Make regular consistent contact with customers' accounts payable personnel.

39. Send a collection letter requiring half the owed amount within two weeks and the remainder within the following two weeks. Explain that if payment is not received, you reserve the right to review the case and take future legal action at your discretion.

40. With new accounts, especially if significant amounts are involved, make it clear that prompt payment is expected. If the customer is slow, tactfully jump all over it.

41. Fax, fax, fax. Set up a form letter to fax past-due customers and attach a copy of the outstanding invoice(s) to it.

42. Send a strong 10-day demand letter indicating that the account will be turned over for collection and detailing collection fees the customer will be liable for. Seeing the additional 25% that the customer will be liable for seems to provide the necessary impetus to get the chequebook and pen out.

43. Use bright and bold collection stickers on your stationary. These are useful in bringing the customers' attention to the fact that payments are past due. Many customers will immediately call and make payment arrangements.

44. Send statements at the middle of the month so they don't get lost in the shuffle at month end with all the other statements.

45. Fax statements and copies of invoices. This avoids the "I-don't-have-the-invoice" excuse, and the fax keeps the item from going unnoticed.

46. Send a thank-you note to those customers who follow through on their promises.

47. Use friendliness to disarm even the most cantankerous accounts payable manager.

48. Send early-notice letters for large dollar payments.

49. Use technology, specifically faxes and e-mail, to reach delinquent customers.

Small business owner/managers looking to improve their collection results will find that implementing one or more of the above suggestions just may do the trick.