Annual prepayment discount for customers: what can you afford to give?

Most funding talk starts with a lender. This one starts with your customers, because a surprising number of them would happily pay you for a whole year of service in one go, if you gave them a decent reason. Gyms, clinics, salons, maintenance contractors, accountants and tutors all sell things that can be paid for ahead of time.

That makes an annual (or block) prepay a real funding track in the mix. But a discount is a price, and the money isn’t all yours. Here’s how to work out what you can afford to give and what strings come attached.

Is an annual prepayment discount really funding?

Yes, in the plain sense that cash arrives before the work is done. A customer who pays $1,200 for the year is lending you the money you’d otherwise earn month by month, and you’d normally need a loan or overdraft to bridge that gap.

The discount is what you pay for the privilege. So the right question isn’t “how do I get more prepaid customers?” It’s “what’s the cheapest way to fill my funding gap, and is a prepay discount cheaper than the alternatives?” Sometimes it is, particularly when you’d lose customers anyway and the discount is also a retention tool. Sometimes a small line of credit is the better fader to push up.

How do I work out what discount I can afford?

Don’t count the full payment as new money. A monthly payer would have paid you something in month one anyway. The cash you’ve genuinely brought forward is the prepay minus what they’d have paid so far, and that shrinks every month.

Illustrative example only: not a real business.

A Hamilton pilates studio has 80 members on $110 a month ($1,320 a year). The owner offers an annual price of $1,200, a $120 discount (about 9%), and 25 members take it.

• Cash in: 25 × $1,200 = $30,000, received in the same month.
• Cost of the discount: 25 × $120 = $3,000 in revenue given away.
• Cash genuinely brought forward: at the start, each prepaying member is $1,090 ahead of a monthly payer. By month twelve they’re about $120 behind, because of the discount. Averaged across the year, that’s roughly $485 per member, or around $12,000 in total.

So the studio pays $3,000 across the year to have about $12,000 of customer money on average. That’s the number to hold up against a quote from a lender or a line of credit for the same amount. If a loan for $12k over a year would cost less than $3,000 all-in, the discount isn’t winning. If you’d also keep customers who might have cancelled, it could still be worth it.

What if the gap is bigger than the prepay brings in?

Then the prepay is one track, not the whole song. Add supplier terms, a smaller loan or a line of credit as a buffer, and use the size your funding gap tool to see what’s left after each piece.

What happens with GST on prepayments?

This is where the cash can quietly leak. Inland Revenue’s special supplies page says that “a supplier who receives advance or progress payments must account for GST on the payments.” For a deposit under a contract, receipt triggers the general time of supply, and for progress payments the time of supply is the earlier of payment or invoice.

In practice, assume the GST on a prepay is due in the return covering the period you receive it, not spread across the year you deliver. In the studio example, the $30,000 includes $3,913 of GST (3/23 of a GST-inclusive amount). That GST belongs in a separate account the day the payments land.

Your accounting basis matters too. Inland Revenue says the payments basis is available if sales are $2 million or less over the past 12 months, while the invoice basis is open to anyone. Either way, a big prepay in the last month of a period can create a GST bill before you’ve delivered anything. Our guide to customer deposits and GST timing covers the date traps in more detail.

Income tax timing is a separate question. How prepaid income is treated can depend on your structure, so ask your accountant before you plan around it.

What do I owe a customer who prepays?

Two things: the service, and a fair way out. The Consumer Guarantees Act applies to services bought from a business for personal, domestic or household use. Consumer Protection says services must be carried out with reasonable care and skill, and that if a problem can’t be fixed or is of a substantial character, the consumer can cancel and seek a refund, with a partial refund possible where the service still has some value. Businesses can’t contract out of those rights with consumers.

For business customers, your own terms of trade do the heavy lifting. Whoever your customer is, write down:

• what the prepay covers and the dates;
• what happens if they cancel early, and how any refund is worked out;
• what happens if you can’t deliver (closure, illness, a supplier failing);
• whether the price can change at renewal, and how you’ll tell them.

Keep the terms plain. A one-sided clause that says you keep everything is exactly what tends to get challenged, and it makes the offer harder to sell.

How do I stop prepay cash being spent twice?

Treat the money in layers, the same way you would with gift voucher cash.

Layer	What it is	What to do
GST portion	Tax inside each payment	Set aside until the return is filed
Unearned service	The part of the year still to deliver	Track monthly; keep enough to deliver or refund
Genuine margin	What you’ve earned so far	Usable working capital

A simple spreadsheet works. List each prepaying customer, the date, the amount, and release one twelfth (or the right proportion) to “earned” each month. The balance that’s left is your liability, and it belongs in your cash flow forecast.

How do I design the offer so it actually works?

• Keep monthly as the default. The prepay is an option, so customers who can’t pay upfront aren’t pushed away.
• Cap the discount. Start smaller than you think: one month free on twelve, or a modest percentage. Test it before you widen it.
• Pick the window. Run the offer when you most need cash, for example the lead-up to a slow season. A November launch, for instance, pulls money in before a quiet January and February, but check where that sits against your GST due dates (a period ending 30 November is due 15 January).
• Offer blocks, not just years. A pack of ten sessions or a six-month plan suits customers who baulk at a full year and still brings cash forward.
• Ask who’s taking it. If your best customers are taking the discount, you’re giving it to people who’d have stayed anyway. That’s the real cost of the offer.
• Don’t discount your thinnest-margin work. If a service is barely profitable, a 9% discount makes it a loss.

Where does a prepay sit in the whole mix?

A prepay pairs well with other customer-side pieces such as deposits for bookings and one-off jobs, and with vouchers for seasonal peaks. On the other side of the ledger, supplier terms let you pay for stock or contractors after the cash arrives. Then you size any loan to what remains.

If you’re not sure how much that is, the funding remixer lets you slide each piece up and down and watch the gap change.

Ready to size the gap your prepay doesn’t cover?

If a prepay plan fills most of your gap, you’ve done the hard part without borrowing. If there’s still a gap, whether that’s equipment, wages in a quiet stretch or a GST bill that landed early, it’s worth having a quick look at the numbers alongside someone who works with this every day.

A real person can look at your situation and talk through what’s left once your customers have done their bit. Enquiring takes about a minute, and your credit file isn’t touched just for asking. We won’t send your details out to a pile of lenders, so there’s no flood of calls. One person looks at your situation and phones you.

One request: fill the form in accurately, including turnover, the amount you’re short and any prepaid balances you still owe customers, so the first option we suggest is the right one.

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