Debt Recovery for Small Businesses
Debt recovery is the process of pursuing payment for overdue invoices. This guide covers the steps UK small businesses can take, from payment reminders to court action, and the costs involved.
Debt recovery is the process of collecting money owed to your business for goods or services that have been delivered but not paid for. Late and unpaid invoices are one of the biggest cash flow challenges facing UK small businesses, and having a clear debt recovery process is essential.
Under the Late Payment of Commercial Debts (Interest) Act 1998, UK businesses have a statutory right to charge interest and claim compensation on overdue commercial invoices.
The Debt Recovery Process
An effective debt recovery process follows a clear escalation path:
1. Payment Reminder
The first step when an invoice passes its due date is a polite payment reminder. This should:
- Reference the invoice number, amount, and original due date
- Ask the customer to make payment promptly
- Provide your bank details (sort code, account number) or a payment link
- Be sent by email with the original invoice attached
Many accounting software packages can send automated payment reminders at set intervals after the due date.
2. Follow-Up Reminder
If the first reminder produces no response, send a second reminder 7 to 14 days later. This should be firmer in tone and:
- Note that the account is now overdue
- State that late payment interest will be applied if not settled promptly
- Request the customer contact you to discuss any issues with the payment
- Set a clear deadline (e.g. 7 days from the date of the reminder)
3. Phone Call
A direct phone call can often resolve what emails cannot. The customer may have a genuine reason for the delay, such as a dispute over the work or an internal payment processing issue. A phone call lets you:
- Understand the reason for non-payment
- Agree a payment plan if the customer is having cash flow difficulties
- Confirm the correct contact for accounts payable
- Establish a firm commitment to pay by a specific date
4. Letter Before Action (LBA)
If reminders and phone calls fail, the next step is a formal Letter Before Action (also known as a letter before claim). This is a legal prerequisite before starting court proceedings. The LBA must:
- Set out the debt clearly — amount, invoice details, and the goods or services provided
- State the late payment interest and compensation being claimed
- Give the debtor a reasonable period to pay (usually 14 to 30 days)
- Warn that court proceedings will be issued if payment is not received
- Be sent by recorded delivery or email with read receipt
The LBA demonstrates to the court that you made reasonable efforts to resolve the matter before litigation.
Late Payment Interest and Compensation
The Late Payment of Commercial Debts (Interest) Act 1998 gives businesses the right to charge:
Statutory Interest
8% above the Bank of England base rate on the overdue amount, calculated from the day after the payment was due.
| Base Rate | Statutory Late Payment Interest |
|---|---|
| 4.5% | 12.5% per annum |
| 5.0% | 13.0% per annum |
| 5.25% | 13.25% per annum |
Interest accrues daily on the outstanding amount.
Fixed Compensation
In addition to interest, you can claim a fixed sum for the cost of recovering the debt:
| Debt Amount | Compensation |
|---|---|
| Up to £999.99 | £40 |
| £1,000 to £9,999.99 | £70 |
| £10,000 or more | £100 |
Reasonable Recovery Costs
If your actual recovery costs exceed the fixed compensation, you can claim the difference as reasonable costs (e.g. debt collection agency fees or legal costs).
These rights apply to B2B (business-to-business) transactions. For consumer debts, different rules apply.
Court Action
If the debtor does not respond to the Letter Before Action, you can issue a court claim through the County Court (or the High Court for debts over £100,000).
Money Claims Online
For debts up to £100,000, you can use the Money Claims Online service to submit a claim electronically. The process:
- Issue the claim — Complete the online form with details of the debt and the amount claimed (including interest and compensation)
- Pay the court fee — Fees are based on the amount claimed:
| Claim Amount | Court Fee |
|---|---|
| Up to £300 | £35 |
| £300.01 to £500 | £50 |
| £500.01 to £1,000 | £70 |
| £1,000.01 to £1,500 | £80 |
| £1,500.01 to £3,000 | £115 |
| £3,000.01 to £5,000 | £205 |
| £5,000.01 to £10,000 | £455 |
| £10,000.01 to £100,000 | 5% of claim value |
- Serve the claim — The court sends the claim to the debtor
- Debtor responds — The debtor has 14 days (or 28 if they acknowledge) to respond. They can:
- Pay the debt in full
- Admit the debt and propose a payment plan
- Dispute the claim (the case proceeds to a hearing)
- Ignore the claim (you can apply for default judgment)
County Court Judgment (CCJ)
If the debtor does not respond or the court finds in your favour, a County Court Judgment is entered against the debtor. A CCJ:
- Is recorded on the debtor’s credit file for 6 years
- Significantly damages their ability to obtain credit, loans, and business contracts
- Can be enforced through various mechanisms if the debtor still does not pay
Enforcement Options
If the debtor does not pay after a CCJ, you can apply for:
- Warrant of control — Court-appointed enforcement agents (bailiffs) visit the debtor to collect payment or seize goods
- Attachment of earnings — The debtor’s employer deducts money from their wages
- Third-party debt order — Freezes money in the debtor’s bank account
- Charging order — Secures the debt against the debtor’s property
- Insolvency petition — For debts over £750, you can petition for the debtor’s bankruptcy (individuals) or winding up (companies)
Using a Debt Collection Agency
An alternative to court action is instructing a debt collection agency. These agencies specialise in recovering debts and can be more effective than in-house efforts because:
- They have dedicated resources and experience
- The debtor takes the debt more seriously when contacted by a third party
- They handle the administrative burden
How Debt Collection Agencies Charge
| Model | How It Works |
|---|---|
| Commission-based | The agency takes a percentage (typically 5% to 25%) of the amount recovered |
| Fixed fee | A flat fee per debt, regardless of the amount recovered |
| No win, no fee | No charge if the debt is not recovered (commission is usually higher) |
All debt collection agencies must comply with the Financial Conduct Authority (FCA) regulations and the Credit Services Association (CSA) code of practice.
Accounting for Bad Debts
If a debt is ultimately unrecoverable, it must be written off in the accounts:
- The bad debt expense is recorded in the profit and loss account
- The corresponding accounts receivable balance is removed from the balance sheet
- If the original invoice included VAT, you can claim bad debt relief from HMRC if the debt is more than 6 months overdue and has been written off in your accounting records
- Bad debt expense is an allowable deduction for Corporation Tax or income tax
Doubtful Debts
For debts that are overdue but not yet confirmed as unrecoverable, you should create a provision for doubtful debts. This reduces the value of accounts receivable on the balance sheet to reflect the estimated amount you expect to collect.
Preventing Late Payments
Prevention is more cost-effective than recovery. Steps to reduce late payments include:
- Credit check new customers before offering credit terms
- Set clear payment terms in your contract and on every invoice
- Invoice promptly — Send the invoice as soon as the goods or services are delivered
- Offer multiple payment methods — BACS , Faster Payments , card payments, and direct debit
- Request payment upfront or a deposit for new customers or large orders
- Use recurring invoices for regular billing relationships
- Include late payment penalties in your terms and conditions
- Monitor your aged debtors report weekly and follow up on overdue invoices immediately