The Basics of Factoring Invoices to Increase Cash Flow
Invoice factoring can be a great source of creative financing to boost your cash flow if you have unpaid invoices. The money you could get from factoring can help you with virtually anything your business needs.
What Is Factoring?
Invoice factoring is not a loan, but a sale of your unpaid accounts receivable to a factoring company, or a factor. The factor will pay you cash and then recover the advance from your customers’ payments. There are several different types of factoring you could choose:
If your customer fails to pay a factored invoice, recourse factoring will hold you responsible for repaying the factoring company.
Non-recourse means that the factor will write off any uncollected debt. However, you might still be liable for unpaid invoices due to a dispute and your error.
High-volume factoring takes the form of a contract with the factoring company, usually for a set term, where you sell your entire debt ledger.
With spot factoring, you can choose which invoices you want to sell to your factor, and often without entering a contract.
Who Can Use Factoring?
Any company that offers open accounts to customers is usually eligible to use invoice factoring. This includes most B2B or B2G industries such as:
- Advertising firms
- Media service providers
- Wholesalers and warehouses
- Logistic carriers
- Government, commercial and private contractors
These industries typically offer extended trade terms that could drag out collections, often making invoice factoring an attractive option for improving cash flow.
How Much Does It Cost?
The factoring company makes money by purchasing your invoices at a discount. This discount rate helps to protect the factor from the risks associated with financing, so generally, companies with a higher risk incur a higher discount rate. The rate could be fixed or might accumulate for each week or month that the invoice remains open.
The type of factoring will also be a contributor to the discount rate; for example, non-recourse is typically more expensive than recourse, and selling all of your invoices in a contract often costs less than spot factoring invoice by invoice. You should also be aware of some fees you may be charged for the application, credit checks on customers, account maintenance, ACH and lockbox service. You could also be penalized for terminating a high-volume contract early.
If you feel your business is a good candidate for invoice factoring, learn about all of your options. Whichever method you decide on could help you increase your cash flow instead of waiting for your customers to catch up to your needs.