Escrow: A contractor’s guide to third-party payment services

Whatever type of contractor you are; a private freelance consultant sole trading for a public sector organisation, or a limited company director supplying a commercial client, safely managing funds for your projects is critical.

What is escrow?

Most end-client businesses, regardless of sector, don’t want to easily part with their hard-earned cash without evidence that the work they are expecting is undertaken to their complete satisfaction.

This is where the system of escrow comes into its own, as it gives both you and them -- the main contractual parties -- peace of mind while work is being carried out, writes JJ Rathour, CEO of WondaPay.

How might escrow be used in contracting?

In an escrow arrangement, a third-party payment service is used to hold money for the project.

For example, you, an IT contractor, may be contracted to develop a piece of software for a business. The client likes the proposal and is prepared to meet the price. In the name of cautiousness, though, or perhaps because not all of the monies are available yet, they don’t give you all the funds directly. Instead, the client deposits them in an escrow account -- where it is kept securely.

As a contractor, you cannot access this money without agreement from the client. But you can be confident that the funds are available – often because you can actually see them sitting there! Once the client is satisfied that the work has been carried out, and carried out to the standard they want, the total funds are released directly into your bank account.

Who uses escrow?

Escrow services are used across a wide range of business sectors.

In the US, escrow is widely employed for real estate deals. Also, freelancing sites and some recruitment agencies use escrow systems to protect both clients and contractors who are carrying out work.

Of course, it’s also used by individual contractors and their clients, whether working through a limited company, an umbrella company, or even operating as a sole trader. There are a wide range of different escrow services available online nowadays and signing up normally takes just a few minutes.

What contractors should look for to ensure their escrow service is among the best

  1. Ease of use

The first thing you need to be certain of is that both you and your client can use the system easily and make payments with just a click of a few buttons. You want all the information you require at your fingertips and don’t want to wait for someone to reply or process payments. It needs to be both intuitive and functional.

  1. Security

You absolutely want your money to be safe of course, and so it’s important to do your ‘due diligence’ and ask how the escrow company stores funds and keeps them safe. The client will also need to be convinced that they are paying money into a bonafide company they can trust.

  1. Fees

You will need to do your research and compare escrow fees from the various providers. Ideally, you don’t want a large chunk of your payment being taken up with charges from the escrow company. With more competition in the market, we’re seeing fairly low processing fees – (at the time of writing) they tend to be around 5%.

  1. Strong communication

Check out the escrow service’s ‘help and support’ offering, and whether it’s fast, reliable, involves humans (not just AI), and is able to give you the answers you’re likely to need, before you commit yourself. Right now, communication is one area where escrow companies often fail. Effective and responsive support indicates that your escrow service is committed to providing a good service to all – and that good service continues once people become its customers.

  1. Speed

Some escrow systems can hang onto funds for various reasons before releasing them and this can have a huge impact on your cashflow. Ideally, you want funds released into your bank account shortly after the client has agreed to pay.

  1. Conflict resolution

There can be disputes when it comes to contractual work. A client may not be satisfied with the final product or service, or may want to contest the price. They may just be trying to get a better deal or are planning to not pay you at all! Either way, it’s important to ensure that your escrow service has a strong and effective dispute resolution service in place. See that it looks fair and easy to access by both parties.

The pitfalls (of not using escrow)

The big benefit is that escrow provides a point of security and reliability for both client and contractor. Money is held by a third party that both client and contractor trust, and that third party has a facility for conflict resolution in the event of any disputes.

For contractors, especially direct-to-client contractors, the major downside of not using escrow is that payment is not protected in any way. The client could suddenly disappear after you’ve done the work for them, and there’s not a lot of easy ways of getting them to pay, especially if the prospect of going to court doesn’t appeal – which it shouldn’t!

Challenges of escrow

The key challenge of escrow for contractors can simply be getting your client to use such a third-party payment system in the first place!

Focusing on the key benefits such as the secure holding of monies -- with conflict resolution to boot – usually helps allay fears. It might also be worth pointing out that the fees for using the escrow are also shouldered by the contractor (who is receiving payment), and not the client.

Currently, escrow services are widely available, maturing around contractor ways of working, and are easy to sign up to. Despite American’s penchant for escrow on big-buck real estate deals, remember that escrow can be used for projects both big and small, and with a variety of different clients.

Win-win, while others rely on agencies and cower from hackers

As mentioned, the escrow model gives both sides of the partnership complete peace of mind and protects funds until the client is ready to release them; not before. For contractors, particularly those who no longer use recruitment agencies or who are concerned by the spate of cyber security attacks of late, escrow also introduces an important layer of security that can make their freelance or consultancy business a more attractive option for potential new clients in the future.

Thursday 10th Mar 2022
Profile picture for user JJ Rathour

Written by JJ Rathour

JJ Rathour is the CEO and co-founder of WondaPay. He has worked for over two decades as a project manager and consultant for a number of international companies; specialising in matters of finance and project conceptualisation, budgeting and delivery. 

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