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Understanding Invoice Factoring

Jan 23, 2019

The success of a business lies in its ability to maintain strong consistent cash flow. However no matter the business there will be times of financial squeeze. To keep the business running, additional financing will be required. Bank loans, SBA Loans, Equipment Financing, and Merchant Cash Advance etc. are the most common yet difficult financing options available at this time of need. Invoice Factoring is a way to turn your unpaid customer invoices into cash; all at a factoring fee. This is preferred by businesses that have customers who get products and services on credit. The unpaid invoices are transferred to the factoring company that will typically pay the business 70 to 90 percent of the amount due on the invoices. The money is then typically collected from customers in 30 to 90 days.

Factoring is not a type of loan. It is debt free and your business’s credit score won’t be affected since the factoring firm doesn’t loan your business any money. In fact, you are actually receiving money that you have actually earned faster than waiting for your customers to pay.

Small Businesses turn to invoice factoring as well as other alternative financing options when traditional sources of finance aren’t an option. The cost of funds raised through invoice factoring is highly competitive when compared to bank loans; offering value for money. Since factoring also serves as a credit management service, patrons can also save money that would have been otherwise spent on collecting payment from customers, stationery, telephone calls etc. Not only does it save money, but you can also invest the time saved on these tasks into growing your small business.

The right invoice financer won’t harm your customer relationships. For a reputable invoice financer, maintaining a good business relationship with the client’s customers is just as important as with the client. This is crucial as nothing should come at the cost of customers losing trust in your business. A reputable invoice financer in practice becomes an extension of the business’ team as a dedicated credit controller.

Businesses think they understand invoice factoring inside out and proceed to get funds from a factor of their choice. The reality is that most of them end up making mistakes that lead to overall dissatisfaction with the service. Let’s look at some of them and what you should do to avoid making them.

1. Missing the details in the contract

This mistake has led to discrepancies and overall dissatisfaction. Because the invoice agreement is a binding contract (i.e. the court can impose penalties if one party attempts to negate on the promise set forth in the contract), it is important to read the agreement carefully. The terms of the agreement should match the proposal submitted by the factoring company. While going through the contract, you should keep an eye out for fees and penalties, their conditions and how they are calculated. There could also be hidden fees and penalties that are not expressed in the contract. Some factoring agreements may also have restrictions on the type of invoices that can be submitted for funding. It is important to contrast and compare factors and their agreements to choose the one most suited for your business needs.

2. Not connecting your customers with the factor

You’ll need to connect the factoring company with your customers whose unpaid invoices will be turned into funds. Since the customers would be paying the factor, they would want to:

  • Quality check the invoices before the ownership is transferred.
  • Establish a contact that they can communicate with on a daily basis.

It is also advised to inform your customers to expect to be contacted by the factoring company. You should then share the contact information of the customer contact to verify both the business relationship and the invoices. To make things easier you can also share any specific information about customers with the factor. The process has to be made as simple and efficient as possible to maintain a good working relationship with all parties in the factoring contract.

3. Not having a proper accounting process

A proper accounting process to track your factoring details has to be set up from the beginning of the agreement period. Considerable time and effort can be saved by creating procedures to track all your factoring details and transactions including advances, reserves and payments. Such an accounting system can also help you keep track of how much you are paying in fees and how the business is doing overall.

4. Not Asking Enough Questions

While meeting with potential factoring companies, business representatives should be ready to ask as many questions as possible about the services, its terms, and conditions. It would be also great to know for how long they have been in service, their Business Bureau rating and what the factoring fee covers. A list of client references from the factoring company can also serve as important points of contact to know about their past performance and client feedback.

The reality is, invoice factoring can be challenging for those who require financing frequently, and independent of client support. In such cases, other alternative financing solutions can provide the quick and best working capital your business needs. These financing options can help leverage the growth of your small business with absolutely no negative impact on your credit rating. It can also help establish your business as one that is credible, trustworthy and reputable. All these are the elements that will make your small business go a long way.


$3,098,641,569 dollars funded