Invoice Factoring

Invoice Factoring vs. Invoice Financing

Invoice financing is a loan or credit line secured by your invoices. You keep ownership, collect from customers yourself and repay the lender as payments come in. The main differences:

• Ownership: factoring is a sale; financing is a loan backed by the invoices.

• Collections: the factor usually collects; with financing, you do.

• Qualification: factoring leans on your customers' credit; financing also weighs your own financial statements and systems.

• Cost: factoring is generally more expensive for the same dollars, though it may include credit checks and collection work you would otherwise pay for.

• Reporting: financing lines usually require regular collateral reports and field exams; factoring runs invoice by invoice.

Many businesses start with invoice factoring and move to a receivables-based credit line once they have enough history, volume and accounting depth.

How Factors Set Their Fees

Factoring is priced as a discount fee rather than an interest rate. Common structures include a flat fee per invoice, a fee for each 10, 15 or 30 days the invoice is outstanding, or a base rate plus a variable component. What affects your pricing:

• Customer credit quality, the biggest factor of all.

• Monthly volume, since larger, steady volume usually earns lower fees.

• Average invoice size and how long customers take to pay.

• Industry dispute rates, returns and chargebacks.

• Recourse or non-recourse terms.

Also check for application fees, monthly minimums, wire charges, credit check fees and termination fees. Ask for a sample settlement statement so you can see every deduction.

When Factoring Fits and When It Does Not

It tends to fit:

• Trucking and freight companies paying fuel and drivers long before shippers settle.

• Staffing agencies covering weekly payroll against monthly client billing.

• Young businesses with creditworthy commercial customers but limited operating history.

• Fast-growing suppliers landing large orders from big retailers or distributors.

It tends not to fit businesses that sell to consumers, carry very thin margins, bill on disputed progress milestones, or already have a lender holding a first lien on receivables that will not release or subordinate it.

Frequently Asked Questions

Is invoice factoring a loan?
No. It is usually structured as a sale of receivables rather than a loan. How a particular agreement is treated in your financial statements depends on its terms, especially recourse, so ask your accountant.

Will factoring hurt my customer relationships?
It can if the factor handles collections poorly. Ask how they contact customers, review their collection practices, and tell key customers in advance.

Can I factor if I have a bank loan?
Possibly, but your bank likely holds a lien on receivables. The factor will need the bank to release or subordinate its interest in the invoices you sell.

Is borrowing against invoices cheaper than factoring?
Usually, for businesses that qualify, because the lender relies on your overall credit and you handle collections. The trade-off is more reporting and stricter approval standards.

Explore Invoice-Based Funding for Your Business

If customer payment terms are stretching your cash, selling or borrowing against invoices can close the gap. Review which customers make up most of your receivables, request settlement examples from more than one provider, and compare total cost against a receivables-based credit line before you choose.

Invoice factoring is the sale of your unpaid business invoices to a factoring company in exchange for most of their value upfront. The factor advances cash within days, collects from your customer on the due date, and sends you the remainder minus its fee.

Because the factor is buying the invoice, it cares most about whether your customer will pay. That makes factoring available to young companies, fast-growing companies and businesses with thin credit histories that might not qualify for a bank line. This page covers how it works, what it costs, and how it compares with borrowing against invoices instead.

How Factoring Works, Step by Step

1. You deliver the goods or services and invoice your customer as usual.

2. You submit the invoice to the factor, along with proof of delivery or a signed timesheet.

3. The factor verifies the invoice, often by contacting your customer to confirm the amount and that the work was accepted.

4. The factor pays an advance, a set percentage of the invoice value.

5. Your customer pays the factor on its normal terms.

6. The factor releases the reserve, the amount it held back, minus its fees.

Once the factor has a relationship with your customers, later invoices usually move through faster.

A Worked Example

Take a hypothetical $50,000 invoice on 30-day terms, an 85 percent advance, and a fee of 2 percent for the first 30 days plus 1 percent for each additional 15 days:

• Advance paid to you: $42,500

• Reserve held back: $7,500

• Customer pays on day 45, so the fee is 3 percent: $1,500

• Rebate sent to you: $7,500 minus $1,500 equals $6,000

You receive $48,500 in total, and the factor keeps $1,500. If the customer had paid by day 30, the fee would have been $1,000. Fees that look small per month add up: 2 percent every 30 days works out to roughly 24 percent a year on a simple basis.

Recourse vs. Non-Recourse

Recourse factoring means you must buy back, or replace, any invoice the customer does not pay within an agreed period. Because you keep the credit risk, fees and qualification standards tend to be more favorable.

Non-recourse factoring shifts some credit risk to the factor, usually only the risk that the customer cannot pay because of insolvency. It typically does not cover disputes over quality, short shipments or returns. Read the definition of a covered credit event closely, since non-recourse protection is narrower than many owners assume, and expect higher fees for it.

Notification and Your Customers

In most arrangements your customers are notified to send payment to the factor. Under Article 9 of the Uniform Commercial Code, once a customer receives notice that an invoice has been assigned, it can only discharge the debt by paying the new owner, not you. That is why factors insist on notification and why customers who keep paying you after notice create problems.

Some factors offer non-notification arrangements for larger, established clients, where you continue collecting and pass payments through. Others offer spot factoring, which lets you sell individual invoices instead of committing your whole receivables ledger. Spot deals give flexibility but usually cost more per invoice.