Unpaid invoices can be a burden for any business. While you know that the money from the invoices will come eventually, slow-paying customers or long repayment terms could have a negative impact on your incoming cash flow — and this could be a problem for your business.
Instead of waiting for weeks (or months) to receive the money owed to your business, how can you get the funding your business needs immediately? What if you could put your unpaid invoices to work for you? What if you could sell your unpaid invoices or use those invoices as collateral to receive the money you need to cover an emergency or to use as working capital?
If outstanding invoices are creating cash flow problems for your business, there are lending options available for you. In this post, weâll explore invoice financing, invoice factoring, and invoice discounting. Weâll discuss the differences, how they can benefit your business, associated costs, and most importantly, how to make the right choice for your business. Read on to learn more.
What Is Invoice Factoring?
With invoice factoring — also known as accounts receivable factoring — a business owner sells unpaid invoices to a lender. This lender is known as a factoring company or simply a âfactor.â When you sell your invoice, the factor gives you an upfront payment that is typically 85% to 95% of the invoice total.
The factor will then proceed with collecting payment from the customer. Once the customer has paid the invoice, the factor will pay the remaining balance to you, less an agreed-upon factoring fee. Factor fees vary by lender but typically add up to between 1% and 6% per month. Factors charge daily, weekly, or monthly fees, so the longer it takes for the invoice to be paid, the higher your fee will be.
Obviously, the factoring fee reduces the amount that you receive from the invoice. This is why itâs important to always weigh out the return on investment before agreeing to sell your invoices. If there isnât an immediate financial need, waiting for your customer to pay the invoice is the wisest decision, but if an unpaid invoice is causing financial challenges in your business, receiving immediate cash may be worth the cost.
Invoice factoring offers a financial solution for businesses that need funds quickly but may not qualify for other loan options. Most business loans require a certain time in business and minimum annual revenues, and many lenders also take personal credit scores into account. But even if your annual revenues are low, your business is new, or you have personal credit challenges, you may qualify for invoice factoring — provided you have qualifying invoices.
Think invoice factoring is right for you? Learn more about how to determine if invoice factoring is a smart financial choice for your business. Once you’ve decided to move forward, check out our comparisons of top invoice factoring companies.
Financing VS Factoring: Whatâs The Difference?
|Invoice Financing||Invoice Factoring|
Uses invoices as collateral for a line of credit
Sell invoices for immediate cash
You are granted a credit facility based on the value of your unpaid invoices, and can draw from your available funds at any time
Factor gives you an advance when the invoice is sent and sends you the rest once the customer pays (minus a factoring fee)
You are responsible for collecting invoice payments
Factor is responsible for collecting invoice payments
Two terms that are often used interchangeably are invoice financing and invoice factoring. Invoice factoring is a type of invoice financing. However, when most people use the term âinvoice financing,â they are referring to accounts receivable financing.
Accounts receivable financing — or invoice financing — is similar to invoice factoring. However, with this type of loan, your unpaid invoices act as the collateral to secure a line of credit. The amount of your line of credit is determined by the value of your invoices.
With invoice factoring, you receive a lump sum payment from the factor based on the value of the invoice. In other words, the factor purchases your invoices. Therefore, the factor is responsible for collecting payments from your customers. With invoice financing, the invoices still belong to you and are only being used as collateral. This means that collecting payments from customers is your responsibility.
What About Invoice Discounting?
Another form of lending based on unpaid invoices is invoice discounting. Like invoice factoring and invoice financing, this is an option for qualifying B2B and B2G businesses that need extra capital. Letâs explore what invoice discounting is and how it differs from invoice factoring.
Invoice Factoring VS Discounting
Invoice discounting is similar to invoice factoring in that you use your unpaid accounts receivable as collateral. As with invoice factoring, new companies and startups, business owners with low credit scores, and businesses with low annual revenues that do not qualify for traditional financing may also qualify for invoice discounting.
What makes invoice discounting distinct from invoice financing different is who collects the payment. With invoice factoring, the factor collects payment from the customer. With invoice discounting, your business is responsible for collecting the payment. After submitting qualified invoices, you will receive a lump sum payment of up to 95% of the invoice value. You will collect payment from your customer as usual and pass the money onto the lender, plus fees charged for the service.
How To Choose An Invoice Financing Solution
Even though invoice factoring, invoice financing, and invoice discounting have similarities, there are situations when you should select one option over the others. Before you submit your invoices, keep the following considerations in mind:
Notification VS Non-Notification
If a third-party lender purchases your invoices through invoice factoring, your customers will be notified since the factor will be collecting payment.
With invoice financing and invoice discounting, you are collecting payment as usual, so your customers will be unaware of a lenderâs involvement.
If you donât want your customers to be notified by a third-party, choose invoice financing or invoice discounting.
If youâre a smaller company, you may not have the manpower to chase down customers for unpaid invoices. If you would rather the lender collect payment, invoice factoring is the option that would work best for you.
It is important to note that invoice factoring often has higher fees. However, the additional costs may be worth it if you do not have the time or resources to track down customers and collect payment.
If you use invoice factoring and the factor collects payments, remember that your customers will be notified of third-party involvement. If this is something you wish to avoid, consider your other financing options.
Asset-Backed Line Of Credit VS Lump Sum
If you want to receive a lump sum payment for your invoices, choose invoice factoring or invoice discounting. With these options, you can receive up to 95% of your invoice value upfront.
If you prefer a more flexible option, consider applying for invoice financing. Youâll receive a line of credit that is backed by your unpaid invoices.
If unpaid invoices are dragging your business down, put your accounts receivable to work for you. With invoice factoring, financing, and discounting, you can receive the money you need even when you donât qualify for a traditional loan. Consider what type of financing would work best for you, shop around for the most affordable fees, and select a lender based on the financial needs of your business.
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