When to Consider Using Invoice Factoring
For small to mid-sized businesses needing to increase their cash flow, it may be wise to consider using invoice factoring. Factoring is a financial process in which slow paying invoices are converted into cash by a third-party company. A factoring company will purchase the outstanding invoices, giving a client immediate access to needed funding. If you are need of funds sooner than the standard 30-60 day payment schedules of most accounts’ payable partners, this presents both a short or long-term option.
Why Would You Need Factoring?
At times, your company may be required to pay for goods or services necessary for your operations prior to final payments from buyers. You may need to meet payroll obligations, if special projects required a temporary increase in part-time staffers or contracted labor. Your own suppliers may require a COD form of payment, taking from your reserves and leaving other areas short of cash. By trading outstanding invoices for actual currency, you can meet your obligations and continue to move forward with your production.
Who Benefits from this Option?
This is typically a sound possibility for small business that may be unable to secure a large bank loan due to credit history or who wish to save time on paperwork formalities. Small businesses who do not want to supply collateral or who have few substantial assets also benefit. Some companies chose to this avenue as a short-term solution, while others rely on a more long-term scheduled system that coincides with invoicing.
How Does it Work?
Invoices are typically factored on two installments. The first part is considered the advance. The payment will cover between 70% to 90% if the invoice value and will be released as soon as the services are rendered or products delivered. The second installment occurs after the client has paid the invoice in full. The remaining funds (between 10-30%) will be refunded, minus a fee. Factoring companies establish their own fee, but the rates usually range from 1.15% to 3.5% every 30 days. If a rate seems extremely cheap, be sure to check with the company’s representative for hidden fees that will billed.
One More Detail
When it comes to repayment, know the difference between a recourse and non-recourse factoring transaction. In a recourse, if your buyer fails to pay the invoice, your company is responsible for settling the account. In a non-recourse transaction, you do not have to pay if the invoice status of nonpayment had an approved reason. Check with the factoring company for the specific details with each situation.