In business, delinquent simply means a borrower is late making payments on a loan or credit account. People are used to thinking of delinquency in terms of banks, mortgage providers and other financial institutions. In fact, many small businesses act as lenders by allowing their customers to purchase goods with a promise to pay for them at a future date.
For instance, a local building supply company may extend credit to contractors in its market area. In such circumstances, a small business is acting as a lender just as a bank does. This means small businesses also have to be concerned about delinquency rates.
Delinquency Rate Definition
Although the term delinquent is commonly used to refer to any overdue payment, the meaning is more specific. Payments may be late, typically for a short time, or a borrower may be so far behind the borrower is in default. A delinquent account falls between these two extremes. Delinquency is measured based on the company's delinquency rate. A delinquency rate is the percentage of borrower accounts that are overdue for a sufficient length of time.
When a business extends credit to its customers, categorizing overdue payments as delinquent can have a serious adverse effect on the client's credit rating. Government rules define when an account is considered delinquent. Federal loans must be 60 days past due. A borrower is not in default until payment is 270 days in arrears. State rules set standards for private lenders. You should check with your state agency so that you know the standards that apply to your business.
Significance of Delinquency Rate
For many small businesses, accounts receivable due to credit extended to customers represents the single greatest commitment of capital for the company. A high delinquency rate can thus have a serious impact on profitability. Collection costs rise and some money owed to the firm may never be recovered. The company's reputation with investors and other stakeholders may suffer. All this makes calculating and tracking the delinquency rate important. Generally, there are two reasons why a customer fails to pay bills on time. In some cases, the customer may not have the money. The customer can pay but fails to do so for some reason such as lack of information about the account's overdue status.
How to Calculate Delinquency Rate
The formula for calculating a delinquency rate is the number of delinquent accounts divided by the total number of credit accounts, with the result multiplied by 100 to convert to a percentage. Suppose you run a local building supply company and allow plumbers, home improvement companies and builders to purchase supplies on credit. There are a total of 500 accounts and 16 of them are more than 60 days past due, making them delinquent. Divide 16 by 500 and multiply by 100 to find the delinquency rate of 3.2%.
Lowering a Delinquency Rate
There are several ways that you can reduce a delinquency rate. A surprisingly common problem in this age of electronic payments is failed payment transactions. Be sure your online and other payment tools are working properly. They should be tested as well to be sure they are easy for customers to understand and use.
Take the time to set up and follow a clear, written customer screening system. This would include requiring customers to submit an application for approval of credit. Sign up with credit reporting agencies to check credit and report problem accounts. You should also have a written policy regarding late payment penalties and early payment discounts. Finally, good communication is key. Send bills out promptly, allowing your customers time to process payments. Send reminder notices ahead of due dates and late payment notices when necessary.