The discount is optional for the customer. It can pay the reduced amount within the discount period or the full amount by the normal due date. A trade discount is different, because it lowers the price whenever the customer pays.
A 2% discount looks small, but expressed as an annual rate, 2/10 net 30 comes to about 37%. That annual rate is the figure to compare with your cost of borrowing, whether you are the buyer or the seller.
How 2/10 net 30 works
The first number is the discount, the second is the number of days it is available and net 30 is the normal due date, as explained under payment terms. So 2/10 net 30 means 2% off if the customer pays within 10 days of the invoice date, or the full amount within 30 days. Variations include 1/10 net 30, 2/10 net 60 and 2/10 EOM, where the 10 days start at the end of the invoice month.
Example. Harbor Supply receives a $10,000 invoice dated March 1 on 2/10 net 30 terms. It can pay $10,000 × 98% = $9,800 by March 11, or $10,000 by March 31. Paying early saves $200 in exchange for parting with $9,800 twenty days sooner.
The annualized cost of an early payment discount
To compare a discount with an interest rate, turn it into an annual rate. Divide the discount by the amount paid after the discount, then multiply by 365 divided by the days between the discount deadline and the due date.
Annual rate = discount ÷ (100 minus discount) × 365 ÷ (net days minus discount days)
For 2/10 net 30, that is 2 ÷ 98 × 365 ÷ 20 = 0.0204 × 18.25 = 37.2% a year. You divide by 98, not 100, because the buyer pays $9,800 to save $200. Compounded over the year, (1 + 2 ÷ 98) to the power of 18.25, minus 1, gives about 44.6%. Textbooks that use a 360-day year get 36.7%.
| Terms | Days gained by paying early | Annualized cost |
|---|---|---|
| 1/10 net 30 | 20 | 18.4% |
| 2/10 net 30 | 20 | 37.2% |
| 2/10 net 60 | 50 | 14.9% |
| 3/10 net 30 | 20 | 56.4% |
For the buyer, the rate is the return on paying early, so taking the discount pays whenever its cash costs less than that. For the seller, it is the price of getting the money sooner, and the real figure depends on when customers would otherwise pay. If they usually pay on day 50 rather than day 30, the discount buys 40 days and the cost falls to 2 ÷ 98 × 365 ÷ 40 = 18.6% a year.
Should you offer an early payment discount?
Compare the annualized cost with other ways of raising cash, such as an overdraft or invoice factoring. A discount lowers your days sales outstanding only for the customers who take it, and it can still make sense when it wins a large account or your prices already allow for it.
Plan for late discounts too. Some customers deduct the discount after the deadline, and each one leaves a small balance that someone has to chase or write off. Decide in advance whether you accept late discounts, put the rule in your terms and match short payments to the right invoice so the remaining balance stays visible.
Early payment discounts, VAT and revenue
In the UK, VAT on an invoice with a prompt payment discount is due on the amount the customer actually pays, a rule that has applied to all businesses since April 1, 2015 (HMRC guidance). Either issue a credit note when the discount is taken, or state the discount terms on the invoice with a note that the customer can only recover as input tax the VAT it actually paid. If the customer pays less but outside the discount terms, VAT is due on the full invoice amount.
In the seller's accounts, a discount reduces revenue. Under IFRS 15 and ASC 606, discounts are a form of variable consideration (IFRS 15 paragraph 51), so you estimate the discounts customers are likely to take and recognize revenue net of them.
Sunbay handles the follow-up side of your terms. It connects to your ERP or accounting system, sends reminders by email and SMS before and after the due date, makes AI voice calls on invoices that stay unpaid and keeps each customer's replies and agreements next to the invoice. Incoming payments are matched using ERP data, and reminders stop once an invoice is paid. See how automated reminders and escalations work.
Frequently asked questions
What does 2/10 net 30 mean?
The customer can take 2% off the invoice if it pays within 10 days of the invoice date. Otherwise the full amount is due within 30 days.
Is a 2/10 net 30 discount worth taking?
Usually, yes. Skipping it means paying an extra $200 on a $10,000 invoice to keep $9,800 for 20 more days, which works out at about 37% a year, far more than an overdraft or business loan normally costs.
What is the difference between a cash discount and a trade discount?
A cash discount, or early payment discount, depends on when the customer pays. A trade discount is a lower price for certain customers, such as wholesalers, and applies whenever they pay.
What if a customer takes the discount after the deadline?
The discount was not earned, so the difference is still owed. Ask for the balance, or allow it once as goodwill and record that decision. In the UK, VAT is then due on the full invoice amount, because the payment fell outside the discount terms.
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