Payment Terms

Definition

Payment terms are the contractual conditions agreed between a buyer and seller that specify when payment is due, what discounts are available for early payment, and what penalties apply for late payment. Common payment term formats in Indian business include Net 30 (payment due within 30 days of invoice date), Net 60, Net 90, and discount terms such as 2/10 Net 30 (2% discount if paid within 10 days, otherwise full amount due in 30 days). Payment terms are typically established during vendor onboarding and documented on the purchase order.

Indian law imposes specific constraints on payment terms for certain categories of vendors. Under Section 15 of the Micro, Small and Medium Enterprises Development Act, 2006 (MSMED Act), buyers must pay MSME-registered vendors within 45 days of acceptance of goods or services, regardless of the payment terms stated on the purchase order. If payment is not made within 45 days, the buyer is liable to pay compound interest at three times the RBI bank rate. This statutory override makes it essential for Indian AP teams to identify MSME vendors and ensure their payment terms do not exceed the 45-day limit.

Payment terms directly impact a company's working capital and cash flow management. Longer payment terms improve the buyer's cash position but may strain vendor relationships and exclude the company from early-payment discounts. Conversely, shorter terms with early-payment discounts can offer attractive returns: a 2/10 Net 30 discount, if captured consistently, yields an annualised return of approximately 36%, far exceeding most companies' cost of capital. Effective AP automation helps companies optimise payment timing by identifying discount opportunities, enforcing MSME compliance, and scheduling payments strategically.

Key Points

• Define when payment is due (Net 30, Net 60, etc.) and discount/penalty conditions
• MSME vendors must be paid within 45 days under the MSMED Act, 2006, regardless of agreed terms
• Late MSME payment attracts compound interest at 3x the RBI bank rate
• Early-payment discounts (e.g., 2/10 Net 30) yield high annualised returns when captured
• Payment terms are established during vendor onboarding and documented on purchase orders
• AP automation enables strategic payment scheduling to maximise discounts and comply with statutory deadlines
• Payment term compliance should be monitored for each vendor category separately