Simply put, invoice factoring gives you access to a portion of the value of outstanding invoices and accounts receivable prior to you being paid by your customers.
When a business uses invoice factoring, the benefits are both an immediate and an ongoing boost to cash flow. Funding is injected into the business at regular intervals, as and when invoices are issued to customers. This provides a secure and reliable source of finance, which allows for better money management while helping to ease cash flow worries. This type of financing is not seen as a particularly high-risk option for either the lender or the company director and is a popular way of achieving business funding without having to give personal guarantees.
This type of lending typically provides credit equal to around 80–90% of the money currently owed on outstanding invoices; however, this can, and does, vary from company to company. The exact amount you are able to borrow against your accounts receivable will be determined by a number of factors, including the value of your sales ledger, the payment history of your debtors, and your company’s level of bad debt. The amount of credit available is extended (or curtailed) in line with the level of the company’s outstanding invoices.
Interest will be levied on any amount borrowed through invoice factoring, although again the level of interest charged depends on your company’s individual circumstances. You could be eligible for more favourable rates of interest and charges on the monies loaned if your company has a low amount of bad debt and your debtors have a previous record of settling their debts in a timely manner.
When entering into this type of arrangement, the factoring company takes full control of the company’s sales ledger along with the responsibility for administering and gathering future payments towards the invoices. This means the factoring company takes charge of issuing payment reminders, statements and any other necessary communication directly related to the outstanding balance.
Whether this viewed as a positive or a negative feature of the agreement varies from director to director. While some worry that their customers receiving invoices from a third party could be viewed in a negative light, others see this as a welcome opportunity to lighten their admin load by eliminating the need to chase outstanding payments.
Once your customer settles the invoice in full, the factoring company will forward you the remaining amount after deducting their fees and charges for providing their service.