Invoice factoring
If customers pay in 30, 60 or 90 days but payroll and suppliers are due this week, factoring converts the waiting into cash. Here is how it is built, what it costs on a real invoice, and when something else fits better.
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Invoice factoring is a way of selling unpaid invoices to a third party, called a factor, instead of waiting for the customer to pay. The factor advances most of the invoice value now, collects the full amount from your customer later, and keeps a fee for the service and the wait. The rest is released to you when the customer pays.
It is built on your customers’ credit and payment habits as much as on your own file, which is why it can work for businesses that are young or thin on bank history but invoice reliable commercial or government customers.
The figures below are an illustration of the mechanics, not a quote. Real advance rates and fees depend on the factor, your customer and the invoice terms.
| Step | Amount |
|---|---|
| Invoice value | $50,000 |
| Advance rate | 80% |
| Cash advanced today | $40,000 |
| Factor fee (flat, for 30 days, 3%) | $1,500 |
| Reserve held until the customer pays | $10,000 |
| Reserve released to you after the fee | $8,500 |
| Total received | $48,500 |
| Cost of the 30 days | $1,500 |
If the customer pays late, many factors add to the fee for each additional period, so the cost of a slow-paying customer is the thing to read in the agreement before signing.
Under a recourse arrangement you buy back an invoice the customer does not pay. Non-recourse shifts some of that risk to the factor, usually at a higher fee and with narrow conditions on what counts as non-payment.
In notification factoring your customer is told to pay the factor. In non-notification arrangements you collect and pass the money on. Know which one you are signing.
Spot factoring lets you sell single invoices when you need to. Whole-ledger agreements commit all invoices from a customer or a minimum volume.
Look for application, processing, lockbox, early termination and minimum-volume fees. They change the effective cost more than the headline rate does.
| Invoice factoring | Merchant cash advance | Line of credit | |
|---|---|---|---|
| Built on | Your invoices and your customers’ credit | Your deposits and receivables sold at a factor rate | Your bank activity and time in business |
| Repayment | Customer pays the factor | Fixed or percentage-based daily or weekly debits | Draw and repay on a schedule |
| Best when | Long customer payment terms are the whole problem | You need speed and the invoices are not the constraint | You want a reusable pool of capital |
For the full comparison see invoice factoring vs merchant cash advance, business line of credit and merchant cash advance.
If receivables are already pledged to another funder, say so on the application. Overlapping claims on the same invoices are the fastest way for a file to stall.
Funding on a factored invoice is often quick once the agreement is in place. Timing depends on the factor and on how soon your customer verifies the invoice; we review your file the same day and funding on approved files is typically the next business day.
Treatment depends on the structure and on your accountant’s reading of it. Ask your accountant how it will appear before relying on it for financial ratios.
In notification factoring they are told to remit to the factor. Some structures are quieter. Ask before you sign if this matters to the relationship.
Fees commonly increase for each additional period the invoice stays open, and under recourse terms an unpaid invoice may have to be repurchased. Those clauses are worth reading closely.
It depends on the customer, the invoice term and the fee structure; a short, reliable invoice can price well, while a long-dated or concentrated book can price high. Compare the total dollar cost over the same period.
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