Sooner or later, a business will have a customer who fails to make a payment. Typically, it is at this point, when issuing dunning to the person or business in default, that the question of late payment interests arises. But what are late payment interests, how high can they be, and how are they calculated? Our article gives you the answers.
What’s in this article?
- What are late payment interests?
- How are late payment interests governed in law?
- When can you charge late payment interests?
- How are late payment interests calculated?
- How do you demand late payment interests?
- How can you avoid late payment interests?
What are late payment interests?
Late payment interests are a form of interest charged when a customer fails to pay a bill on time. In other words, late payment interests are levied in the event of late payment. They are added to the original invoice amount to motivate the defaulting customer to fulfill their payment obligation. However, late payment interests are also charged as compensation for the effort and loss incurred as a result of the late payment.
Specifically, banks—i.e., lenders—charge late payment interests when a borrower fails to make an agreed loan payment on time. However, trade and service transactions may also be subject to late payment interests when invoices are not paid on time.
It is important to differentiate late payment interests from dunning fees. The latter are set by creditors at their discretion within a particular framework, while the amount of late payment interests that can be charged is defined by law.
How are late payment interests governed in law?
The charging of late payment interests, and their amount, is governed by section 288 of the German civil code (BGB). Based on this legislation, outstanding debts can be subject to late payment interests. The amount of such late payment interests is calculated using the current base rate published by the German central bank, Deutsche Bundesbank.
From a legal perspective, the civil code differentiates between two types of late payment:
- Default of acceptance—when goods are not accepted
- Default in payment—when invoices are not paid
Businesses can charge late payment interests only on default payments—in other words, if a customer fails to pay an invoice and falls into arrears with their payments. Businesses are free to decide whether they wish to charge late payment interests or not—they are not mandatory.
When can you charge late payment interests?
Businesses must observe a certain period of time before they can charge late payment interests. Typically, a 30-day period is stipulated for customers, provided this has been agreed to as a payment deadline. However, with business customers, a longer or shorter payment deadline may be chosen. As a general rule, you must note that the date of service to the customer is decisive when establishing the relevant deadline. It is only when an invoice remains outstanding after this period has elapsed that the customer falls into default and you can charge late payment interests as the creditor.
Where you have agreed to a shorter payment deadline, you can also charge late payment interests earlier—provided the invoice is still outstanding at the end of the agreed period. You must set a precise payment deadline in advance or when issuing the invoice.
How are late payment interests calculated?
The amount levied for late payment interests is calculated using the current base rate published by the Deutsche Bundesbank. This fixed interest rate is published twice a year (January 1 and July 1) in the Federal Gazette in accordance with statutory provisions. Since January 1, 2024, the base rate has been 3.62%.
The base rate is subject to change. Anyone wanting to charge late payment interests should first check the base rate before calculating their late payment interests. It also makes a difference whether you are levying late payment interests on a private individual or business customer. With business customers, late payment interests are calculated by adding 9 percentage points to the base rate, while this additional amount is 5 percentage points for customers.
Pursuant to section 288 BGB, debts may be subject to interest while in arrears. Taking the current base rate into account, the following statutory late payment interests are applicable:
Transactions with private individuals: 8.62%
Calculation: 3.62% + 5 percentage points = 8.62%
Transactions with business customers: 12.12%
Calculation: 3.62% + 9 percentage points = 12.62%
The base rate is always denoted “per annum” (as an annual rate). It is important that you calculate the late payment interests accurately each day for the relevant period in which the debtor didn’t make payment and fell into default (days in arrears). When calculating late payment interests, it pays to follow these four rules:
- Find out the current base rate.
- Work out how many percentage points you must add—business-to-business (B2B) or business-to-consumer (B2C).
- Calculate the number of days in arrears.
- Calculate the interest for the default period.
Here are two examples to help you calculate late payment interests:
Sample calculation for B2C customers
A B2C customer owes you 1,000 euros and is 100 days in arrears. The late payment interests for the period in default are calculated as follows:
Invoice amount x (base rate + 5 percentage points) x days in arrears/365 = late fee
1000 euros x (3.62% + 5 percentage points) x 100/365 = 23.61 euros
The overall amount including late payment interests is 1023.61 euros.
Sample calculation for B2B customers
A B2B customer owes you 1,000 euros and is 100 days in arrears. When calculating late payment interests, there is only one base rate you must take into consideration:
Invoice amount x (base rate + 9 percentage points) x days in arrears/365 = late fee
1000 euros x (3.62% + 9 percentage points) x 100/365 = 34.57 euros
The overall amount including late payment interests is 1034.57 euros.
Tip: You can use an online late payment interests calculator to check and review your calculations.
How do you demand late payment interests?
When a customer fails to meet an agreed payment deadline, it is best to first send a payment reminder. This should include all of the information from the original invoice and set a new payment deadline. If the debtor still fails to pay by this new deadline, you can initiate dunning. As a general rule, you should send three dunning letters before taking legal action. You can also calculate late payment interests as part of the dunning process.
A dunning letter should contain the following information:
- Date the invoice was due for payment
- Reference to the payment reminder and its date
- Indication of applicable late payment interests and dunning fees
Set a new payment deadline in the dunning letter. If a second and third dunning letter are required, you will need to adjust the late payment interests in accordance with the number of days in arrears. You must clearly indicate in the second and third dunning letters that further costs will arise if payment remains outstanding (court costs, etc.). It is best to send dunning letters by registered mail so you receive proof of delivery.
If the out-of-court dunning letters don’t achieve the desired response, you should engage a legal advisor or debt collection firm. This increases the pressure on the debtor. Again, additional days in arrears lead to new late payment interests coming due.
How can you avoid late payment interests?
When a customer misses a payment, it is best to contact the customer directly and discuss it with them. In most cases, missed payments are due to misunderstandings or because an invoice has not reached the accounts department or has gotten lost. It may also be that a debtor has temporarily faced financial difficulties and that led to the first deadline being missed.
After sending an initial payment reminder that fails to achieve the desired effect, try to find out why the payment has been missed. Speaking to someone directly is usually the best way to solve problems. Contacting your customer and setting a new payment deadline may mean you do not need to resort to the dunning process. Even if this fails to achieve the desired effect, you should still follow the official route and send dunning letters for the outstanding amount. A certain amount of leniency is advisable when handling debts and can have a positive effect on your business relationship. It is best to communicate openly and directly with customers in arrears.
You can also try to avoid such situations when issuing your invoices.
How to guard against missed payments and avoid having to charge late payment interests
When issuing invoices, check that the payment deadline is clearly visible. This will prevent misunderstandings. If the payment deadline is missing from the invoice, your customer cannot fall into arrears, and you will face legal problems in claiming your money.
It is also advisable to offer your customers payment methods that make paying easy. You can also create additional payment incentives—for example, granting discounts for early payments. These can prevent late payments and the need to charge late payment interests.
In addition, you can include a reference on the invoice that late payment interests will be charged in the event of late payment. This makes it clear that it is in the interest of both parties for payments to be punctual. If you also offer a discount for early payment, then it seems as though you are inviting customers to pay on time rather than imposing a deadline.