Invoice Financing vs. Factoring: Unlock Cash Tied Up in Receivables

Business-to-business companies often wait 30, 60 or 90 days to be paid. In the meantime they must cover payroll, materials and rent. Invoice financing and factoring turn unpaid invoices into cash sooner, so growth is not limited by how slowly customers pay.

They sound similar and are often confused, but they work differently and suit different businesses.

With invoice financing, sometimes called accounts receivable financing, you borrow against your outstanding invoices but keep control of your customer relationships and collections.

1. You issue an invoice to your customer as usual.
2. The financing company advances a percentage of the invoice value, commonly in the range of 70 to 90 percent.
3. Your customer pays you directly.
4. You repay the advance plus fees, and the remainder is yours.

Customers may not know you are using financing, which many owners prefer.

With factoring, you sell your invoices to a factoring company at a discount.

1. You deliver the work and issue the invoice.
2. The factor advances a large part of the invoice value.
3. The factor collects payment directly from your customer.
4. When your customer pays, the factor sends you the remainder minus its fee.

Because the factor handles collections, customers will usually know it is involved. That can be helpful if you lack a collections process, and an issue if you want a seamless customer experience.

Ask whether a factoring agreement is recourse or non-recourse. With recourse, you are responsible if the customer does not pay. With non-recourse, the factor takes on the credit risk of the customer's non-payment under defined conditions, usually at a higher price and with limits on what counts as non-payment. Read the definitions carefully because non-recourse rarely covers every dispute.

Fees are often quoted as a percentage per 30 days that an invoice is outstanding, plus possible set-up, service or minimum-volume fees. A small percentage that looks cheap per month can add up on invoices that take 60 or 90 days to pay.

To compare offers, estimate the total fees on a typical invoice at your typical collection time, then compare that with what you gain by having the cash sooner. Also check for contract minimums, early-termination fees and whether you must factor all invoices or can choose.

• You want to keep collections and customer contact in-house: invoice financing.
• You want to outsource collections and credit checks: factoring.
• You have reliable customers but uneven payment timing: either can work.
• You have concentrated exposure to one or two customers: expect lenders to focus heavily on those customers' credit.

Both depend on the quality of your customers more than on your own credit, which makes them useful for younger or fast-growing businesses.

If you need cash against receivables but dislike the cost or structure, consider a business line of credit, a short-term working capital loan or tighter payment terms with your customers. Even a small early-payment discount can speed collections without any financing cost.

lendfloCapital helps business owners compare working capital and receivable-based options through one short application, with no cost to apply.