What is a good early termination fee for maintenance contracts?

Question

Just got back from a client that asked to have an early termination clause added into a proposed maintenance contract. The contract is to be for a full year with option to renew. The client may pay monthly or all upfront. I'm wondering what is a good early termination fee assuming I should have one?

• No fee
• Fixed fee
• 2-4 months of monthly fees
• Half of the remainder of the contract
• No early termination option

And what if the client pays for a whole year worth of fees upfront and then wants out halfway through the year? Refund or no refund?

Answer 1

Boy, you're a lucky man to have a client that asks you to add fees instead of take fees out.

Unless maintenance is business you enjoy, I would definitely have no early termination fee. I certainly wouldn't want to discourage a customer from saying "hey, I no longer want to bother you with annoying maintenance requests, is that OK?".

Monthly fee, and if they pay in advance for several months and then cancel midway through, you should give a prorated refund. The only thing in question is what you should charge someone who cancels a maintenance contract and then 3 months later has a problem and calls for maintenance.

Answer 2

It depends on. Some businesses rely heavily on maintenance contracts, because they sell the product relatively cheap and make their profit later with the maintenance contract. In that case, the early termination fee must be high, like 70% of the remainder of the contract.

In other cases, the maintenance contract is more a burden and the business doesn't mind losing it early, so a small fee (or no fee at all) doesn't hurt.

Answer 3

Sometimes people give a big discount if a client pays annually. If this is the case here, I would consider at the very least removing the discount when calculating the refund.

Alternatively/Additionally you could charge a early termination fee that covers the costs you incurred setting up their maintenance plan and closing it out.

If it's a monthly contract I wouldn't charge any termination fee but would not give a prorated refund either.

Answer 4

Pro-rate a refund, but take 10% out for your trouble. Your customer has paid you in advance, so you have agreed to be available to provide the support, and you should be compensated for the trouble (and often the cost) associated with that.

With my clients, it usually costs us around 2.5% in processing fees, so we make 10% of whatever's remaining nonrefundable. It discourages fickleness, but isn't outrageous.

Answer 5

The way that maintenance contracts seem to work with big software companies (like Microsoft) is that you purchase a year of maintenance with the understanding that during the year you may or may not need support.

If you decide you no longer need the option of support during the year, you do not receive a refund as that support is still available to you.

If they want out of a year long contract early, I would say no refund. You are being generous in offering a month long maintenance contract and if they think they might need to discontinue support, the shorter contract gives them an easy out.

All they have to do is not renew the following month.

Answer 6

Our philosophy is that if they stop paying maintenance (and support) they stop receiving maintenance (and support). No fee required.

As a "micro"-ISV, in these days of Windows Vista, Vista 64 bit, Windows 7, Windows Server, upgrades to this that and everything else, most small businesses are glad to have you at the end of the phone and the thought of that going away is enough to encourage them to keep paying.

As someone else said, I guess it depends on the scale of your project.

Answer 7

Surely it depends on a large number of things. What proportion of your annual income is this client? What is the chance of loosing this client if you don't offer the clause? What proportion of your annual time does this client take? And finally how easily could you replace the time/income if they canceled? Are you looking to maximise your total income or your hourly rate.

For example, lets say they are your one-and-only client. You work fulltime for them, its 100% of your income, however your skills are in demand and you could easily switch to a new client. If they canceled and there was no fee, you'd lose nothing, because you can replace your income.

In my position I would be aiming to maximise hourly rate. I would be very pleased if some one was willing to pay me a third of my income for no work :) So I might consider letting them buy out at a third of their remaining fee.

Maybe I would offer them to options (figures for guide only)

1. 4000/month, no option to terminate early
2. 4500/month, but can terminate by paying only 1/3 of remaining fee.

Answer 8

That is a very unusual situation, in my experience.

I've both provided and purchased annual maintenance contracts for software, and have never heard of an "early termination" option in a one - let alone one that includes a refund of monies already paid. Would McDonald's give you a partial refund on a half-eaten hamburger just because you decided you were full?

Also, remember: you're a software outfit, not a bank. Here are a couple of ideas about this with regard to taking monthly payments, rather than a lump sum up-front:

• You're effectively lending them money. So you might consider saying, "If you go for monthly payments, the annual cost will be X% higher than if you paid up front."

• You need to be compensated if they don't make their payments on time. An example: payment terms on monthly invoices are net 5 with interest on overdue invoices accruing at 2% per thirty days or fraction thereof, and if an invoice goes overdue sixty days, the entire contract accelerates into a balloon payment.

That may all seem rather harsh, but it's actually pretty standard.

An option you might offer would be a renewable three-month maintenance contract, with each three months paid up front. In that case, the amount you get per month should be higher than if they commit to an entire year.

That's how my martial arts dojo does things. You can pay month-to-month, or you can pay 3, 6, or 12 months in a lump sum, with increasing discounts. It works pretty well for everybody.