China Payment Terms
Negotiating payment terms with Chinese companies is one of the trickiest aspects of doing business with China. Vague milestones, unpaid invoices, and last-minute changes are common complaints. This post provides key strategies to ensure your company gets paid in full and on time when working with Chinese companies.
Whenever one of our attorneys is retained to represent a client providing goods or services to China, we start by asking about the payment terms. If the Chinese side is going to pay our client the full amount upfront, the contract provisions do not need to be too specific. But full payment upfront by a Chinese company is as rare as a seeing a unicorn cross the road, and so the contract is virtually always going to be king.
Payment Pitfalls to Avoid
The typical scenario is one where the Chinese side agrees to pay a modest amount upfront (say 20%), another portion (say, another 20%) after a vaguely defined milestone, and the rest after the project is completed. Though this approach is common, it can lead to challenges later in the project.
Halfway through performance of a contract is not the time to be arguing about whether a milestone has been met. But such arguments crop up nearly every time. Even worse, this structure transfers the bulk of the risk to our client, who has to perform first and then collect, often from a Chinese company with no assets outside China. We have seen far too many situations where the Chinese side makes so many 11th-hour changes to the deliverables and the schedule that our client ends up losing money on the deal even if they do end up getting paid in full.
Our goal as attorneys is to make sure that our client gets paid enough and early enough so that they are better off having made the deal than walking away.
Payment Protections to Include
To ensure a smooth payment process, we generally recommend you consider the following three straightforward strategies:
1. Clarify Payment Terms: Make sure the contract’s payment provisions are easy to understand. Define when a payment is due, such as upon reaching a certain date, completing a phase of the project, or delivering a prototype. Using simple language here avoids confusion later on.
2. Upfront Payment: We advise requesting a significant payment before starting any work. This not only demonstrates the seriousness of the Chinese party but also confirms their ability to complete international transactions. Since the renminbi (RMB, the Chinese currency) has restrictions on being exchanged and sent abroad, receiving an upfront payment is a practical step to help ensure that the Bank of China will allow your Chinese counterparty to send money out of China.
3. Incorporate a Safety Margin: Add an extra 10% to your charges, to be paid after delivery, to serve as a buffer. In international business, it’s not uncommon for the final payment to be delayed or disputed. This strategy ensures that, even in less-than-ideal scenarios, your company is compensated fairly for its efforts.”
Alternative Payment Plans
Though clear payment terms are often the most effective approach, some situations may call for additional safeguards, such as trade insurance or requiring a letter of credit.
- Trade insurance protects businesses from losses due to non-payment by customers. When a business has trade insurance, the insurance company will pay the business for the value of the goods or services that were delivered, even if the customer does not pay.
- A letter of credit is a guarantee issued by a bank on behalf of the buyer, ensuring that the seller will be paid if they meet specific conditions outlined in the letter. This can be a powerful tool for mitigating risk, especially in deals with companies you don’t have a strong business relationship with.
These alternative payment strategies sometimes make sense, but they usually introduce additional complexities and costs. Sticking to clear payment terms is almost always the most straightforward and effective approach, but understanding these options can be helpful in navigating complex international transactions.
Using a Dispute Resolution Clause to Protect Your Company
Your written contract with a Chinese company should clearly outline the payment terms and have a dispute resolution clause that specifies how disputes will be resolved in a way that makes sense for your company and situation. For what specifically should go into your dispute resolution clause when doing business with a Chinese company, check out China Contract Dispute Resolution Clauses: Choose Certainty
Payment Protection Tactics
Navigating payment terms with Chinese companies requires understanding China’s business and legal landscape, a significant upfront fee, and additional safeguards like a 10% post-delivery charge. Above all else, it requires a strong dose of assertiveness, consisting of the following:
- Being clear about your payment expectations and requirements, and requiring payment terms that protect your company.
- Requiring a China-centric written contract that works for China.
- Requiring a significant down payment and timely progress payments, both of which are clearly set out in your contract.
- Being prepared to walk away from a deal if you are not happy with the payment terms to which your Chinese counterparty is willing to agree.
By being assertive, you can help ensure that you get paid on time and in full for the goods or services you provide.
Real Life Examples
Case Study 1: Successful Upfront Payment Negotiation
About a decade ago a French food company was entering a contract with a Chinese company for a large shipment. Our law firm did due diligence and determined that the potential Chinese buyer was fairly low risk, but the French company rightly remained concerned about payment delays and the risk of non-payment.
We suggested our client insist on a 60% upfront payment before beginning production and an additional 25% be paid before shipping.
Outcome: The Chinese company negotiated the 60% down to 50% and the 25% down to 20%, which was both expected and quite alright. The willingness to make such substantial upfront payments showed serious commitment and our client ended up receiving both payments and the final payment promptly, and it continues doing business with this same Chinese company to this day. The rest of the payments were structured around clear, mutually agreed milestones.
Case Study 2: Dispute Over Vague Milestones
An American construction materials supplier wanted to supply materials for a major construction project in China. The payment plan proposed by the Chinese company was vague in defining project completion stages. Disputes arose over whether certain milestones had been met and our law firm was called in to try to resolve the situation. We ended up engaging in lengthy negotiations with the Chinese company, all while payments remained delayed. Our client ended up getting paid way less than it expected, and just enough so that it ended up breaking even on the deal.
Case Study 3: Using Trade Insurance
A European farm products exporter was entering into a contract to supply large quantities to a Chinese buyer, and it opted for trade insurance to safeguard against potential non-payment. The insurance provided them with the confidence they needed to proceed with the deal. The Chinese company delayed and then never made the final payment, but the trade insurance covered the loss, validating the European company’s cautious approach.
Conclusion
When negotiating payment arrangements with Chinese companies, a pragmatic approach is essential. By avoiding vague milestones, requiring substantial upfront deposits and protective contract terms, you increase your chances of receiving full and timely payment. Though some deals may necessitate creative solutions like trade insurance or guarantors, keeping payment provisions clear and simple is usually the most effective tactic. With the right contractual safeguards and vigilant follow-through, getting paid by your Chinese partners is achievable.
