Three Essential Tips for Managing Accounts Receivable in Construction

Contractors and suppliers face a lot of risks in all phases of construction, but some of the most dangerous of all are payment delays and nonpayments. The construction industry is notorious for having these payment issues and it could threaten the life of any construction business on the receiving end. All of these issues will have a huge impact on a company’s cash flow and expose them to greater financial risks if not addressed.

Given this, construction contractors and suppliers should stay on top of customer accounts, especially those that are significantly past due. The nature of the construction industry is such that long periods exist between billing and collection. Without an effective accounts receivable management system in place, this long period can hurt a company’s cash flow. Cash reserves end up being used to pay for expenses and payroll.

Accounts receivable management involves improving the collection process for efficiency, identifying the reasons for nonpayment and being proactive in reminding clients about their overdue accounts. Here are some tips on managing accounts receivables in a construction business.

1. Know each prospective client’s accounts payable process intimately.

To better manage accounts receivables, contractors need a firm grasp of the other side of the equation—the accounts payable process of clients.

Cash is the lifeblood of all businesses, so companies take proper care before releasing cash to pay an invoice. In general, the client’s accounting department will pay only the invoices and bills that are valid and accurate. They also will have internal controls in place to prevent paying inaccurate or fraudulent invoices as well as paying the vendor twice.

What does this mean for a contractor’s accounts receivable process? It points out the importance of sending accurate and timely invoices to clients. It is not enough to simply write the quantity and the price of the goods and services provided. Contractors also need to highlight the sales description as well as contact information. Detailed sales descriptions will let the client know the work done and supplies delivered that correspond to the price. The contact details will allow the client to reach the contractor for billing inquiries.

In addition, contractors also need to take note of how clients pay for bills. Do they prefer to write checks or do they use online payment? Whatever it may be, ensure that a convenient payment method is agreed on for smoother transactions.

2. Put prompt payment laws and other government safeguards in action.

There are federal laws and state laws that protect contractors, subcontractors and suppliers from assuming financial risk due to payment delays. It is important to take note of these government safeguards and put those that are applicable into action, such as prompt payment laws and the mechanics lien.

Prompt payment laws are a set of rules included in the federal and state laws that ensure payment is made to contractors and suppliers in a timely fashion. These laws specify the time when payments should be made through the payment chain and limit the time period where payment can be withheld. They may also provide rules regarding penalties or interest incurred when payment is delayed. The rules relating to prompt payment vary from state to state, so contractors need to make sure they comply with the requirements set by their state laws.

The mechanics lien is another legal remedy that puts a legal claim on a property if contractors don’t receive the payment on time. When the lien is enforced, the property owner could be forced to sell the property and, if that’s the case, the proceeds will be used to satisfy the claim. The mechanics lien is one of the most powerful tools at a contractor’s disposal. Contractors should be sure to familiarize themselves with the requirements provided by their state.

3. Systematize the incentives for early payment.

While penalties are good motivators for clients to pay on time, positive reinforcement by providing early payment incentives can be more effective. There are several ways contractors can approach early pay incentives.

One common technique is using early payment discounts. For example, contractors can put something like: “2% 10 NET 30” in their invoices, which means the invoice is due after 30 days, but the client will receive a 2% discount if they pay within 10 days.

Early payment incentives are potent in encouraging fast payment, but take note that discounts affect a contractor’s bottom line. What’s crucial to the business position: Fast payment or full payment? Consider the situation and check if early payment incentives will work for you.

Managing accounts receivable in the construction industry can be tricky, but it should always be a top priority for all contractors, suppliers and business owners. Contractors can take note of the practices outlined above to improve their collection processes and cash flow.