Small businesses are often in need of quick financing for a variety of expenses including working capital, purchasing equipment, inventory, and more. Although there are several options for funding through traditional banks and credit unions via business lines of credit and small business loans, not all businesses qualify.
These types of financing offers are reserved for businesses with strong credit histories, high business credit scores, and a longstanding track record of revenue and profitability. For other small companies in need of financing, invoice factoring may be an option.
While invoice factoring can be a viable solution for small businesses, there are several considerations to take into account before pursuing this financing method. Companies should know how invoice financing companies work, the fees involved, and when invoice factoring makes sense.
On this page:
- What is Invoice Factoring?
- Best Invoice Factoring Companies
- How Do You Choose a Factoring Company?
- Invoice Factoring Benefits
- Invoice Factoring Downsides
What is Invoice Factoring?
With the help of an invoice financing company, businesses of any size may be able to secure the financing they need to cover expenses. Invoice factoring is not a loan, but a sale of current invoices owed to the business. The factoring company provides a lump sum of cash to the company as a form of near-immediate financing.
The business receiving the lump sum payment for its invoices allows the factoring company to collect on the outstanding invoices from that point forward, leaving them with more time to focus on other revenue-producing activities.
Small businesses interested in invoice factoring must submit an application to a factoring company. During the application process, the business provides detailed information about the outstanding invoices available for sale, bank statements of the company, and in some cases, the credit history of a business owner or the business itself.
Most applications are now submitted through an online platform made available by the factoring company and then quickly reviewed by the underwriting team. Once approved, a lump sum is deposited into the business bank account for use.
Best Invoice Factoring Companies
Here are a few of the leading invoice factoring companies that may be a good fit for your business financing needs.
One of the most prominent invoice factoring companies is BlueVine, an online lender focused on helping businesses with cash flow issues. BlueVine invoice factoring has the following features:
- Simple, transparent terms and agreements
- Fast funding through its online platform
- Available for invoices due in 15-90 days
- Factoring amounts as low as $20,000 and up to $2.5 million
- Fees charged based on outstanding invoice timeframe, ranging from 0.4% to 1%
- Approval in as little as 24 hours
Triumph Business Capital
Another option for invoice factoring is Triumph Business Capital. The asset-based lender works with several different types of companies, including freight brokers, truckers, and small- to mid-sized businesses in other industries to help cover financing needs. Some of the features of Triumph Business Capital invoice factoring include:
- An advance rate of up to 90% on outstanding invoices, depending on the industry
- Fast and transparent online application
- Funding in as little as 24 hours
- Fees based on the characteristics of the business
- Full management of invoice collection and back office activities
Businesses may also look to Harper Partners for their invoice financing needs. As a leading provider of B2B cash flow funding, Harper Partners offers the following features with its invoice factoring options:
- Credit lines for factoring between $50,000 and $5 million
- Advance rate up to 90% of outstanding invoices
- Approval in as few as two business days
- Funding in as little as 24 hours
- Interest rates and fees ranging from 1% to 3% per month, paid when invoices are collected from customers
How Do You Choose a Factoring Company?
With more than 700 invoice factoring companies operating for the benefit of businesses around the world, it can be a challenge to know which is the right fit. Businesses looking at accounts receivable financing for cash flow should evaluate the rates and fees, any penalties, contract agreements, advance rate options, and factoring minimums (or spot factoring) before making a decision.
Rates and Fees
While invoice factoring may seem like a straightforward option for getting the right business funding on short notice, there are fees involved in the process. First, invoice factoring companies often charge a percentage of the invoices collected, known as the factor fee, ranging from 1% to 5% of the face value of the invoice.
Some companies may charge the lowest fees in this area, but that doesn’t always mean they are the least expensive. It is important to understand there may be other hidden charges, which can add up to a significant amount if the business is not careful.
Factoring companies may also charge application or funding fees, background check fees, monthly processing fees, invoice submission fees, or ACH or wire transfer charges. Be sure to ask your factoring company for a full list of services and fees before making your selection.
In addition to service fees, some invoice financing companies may also charge penalties for terminating a contract before its end date. There may also be penalties charged when the factoring company is unable to collect on a specific invoice from the customer. Penalties range wildly from one factoring company to the next, so it is necessary to understand what your responsibilities are as a business using factoring services.
Most factoring companies will have a business sign a contract when using accounts receivable financing. Contracts also vary from company to company, but be sure to look at the term of the contract, the fees involved in using the service, and any penalties that may be due back to the factoring company should you end the contract early. Base your decision on your specific business need for financing.
Another factor to consider when utilizing receivables financing is the advance rate. Factoring companies calculate the advance rate — the percentage of outstanding invoices you receive as a lump sum — based on several qualities of the business. The advance rate may be 80% or 90%, but this is dependent on how risky the industry in which the business operates is, the credit strength of the company, and the products or services provided by the company to its customers.
Even between factoring companies, the same business may receive a different advance rate based on these specifics. Always review the offered advance rate as part of the decision process.
Factoring Minimums vs. Spot Factoring
Factoring companies may also impose a factoring minimum before they will approve an accounts receivable financing deal. This means the business must have at least that amount in outstanding invoices to finance before a company will provide funding.
However, there are also factoring companies that work on a spot factoring basis. This means a single invoice may be sold to a factoring company in exchange for upfront financing. Factoring minimums provide less flexibility than spot factoring, but the latter may also cost more to the business.
Invoice Factoring Benefits
There are several benefits that make invoice factoring a valuable option for businesses.
The most apparent benefit of invoice factoring is the ability to get access to funding relatively quickly. An invoice factoring company can provide a lump sum payment in exchange for available invoices in a matter of days, deposited directly into the business account for use. This is unlike traditional bank loans for businesses that can take several days to several weeks to get through the underwriting process.
Less Strict Eligibility Requirements
Additionally, invoice factoring does not require strong credit; instead, businesses simply need accurate invoices the company can collect on over the next 30 to 90 days.
Eliminates the Need to Collect Payments
Invoice factoring also benefits small businesses in the realm of time and energy output. Instead of giving an employee or two the daunting task of collecting on outstanding invoices from customers, the factoring company takes responsibility for managing payments for outstanding invoices. Most factoring companies employ highly trained professionals who understand what it takes to receive payment on an invoice, even if the original small business has had trouble collecting in the past.
No Collateral Needed
Finally, invoice factoring does not require any collateral to be pledged against the cash advance. Some small business loans and lines of credit require borrowers to link an asset, like real estate or equipment, to a loan to help offset the risk the lender takes on in providing funding. Invoice factoring approval does not hinge on available collateral, which means small businesses are able to get other types of long-term financing should they need it.
Each of these advantages means invoice factoring is beneficial when a company needs fast access to capital and an easy application process, as well as when business credit is not in perfect condition.
Invoice Factoring Downsides
Invoice factoring may not be the best option for some companies, especially those that can qualify for less expensive, fixed-term traditional business loans through a bank or credit union. Additionally, businesses that do not have invoices will not qualify. It is necessary to consider these downsides of invoice factoring to determine if it is a good option for your business.
Although invoice factoring is a simple solution for many small businesses in need of quick access to capital, there are some caveats.
First, invoice factoring comes with significantly higher fees than traditional bank loans and lines of credit. The cost for an invoice factoring deal may range from 0.50% to 3%, depending on the industry of the small business and the customers’ track records of on-time payments.
For example, receiving an invoice factoring advance of $100,000 may mean $3,000 is going toward fees. Some factoring companies also charge ancillary fees, such as origination or funding fees. These expenses can add up quickly and eat away at the financing received in a hurry. When companies have a more affordable option to receive the funding they need, invoice factoring may not be the right option.
Invoices Still Need to be Paid
Additionally, invoice factoring can be risky if outstanding invoices are not able to be collected. A small business may be required to buy back invoices that are left unpaid, which can be a significant and unexpected cost. If you receive a “nonrecourse” factor, however, you will be protected in case your invoices are not paid; just note that you will likely pay a higher fee for nonrecourse factoring.
Invoice factoring also means small businesses lose control over the collections process. If a factoring company is aggressive in collecting from customers, the business could earn a bad reputation and ultimately lose loyal paying customers over time.
A business that wants to maintain these controls over the invoice collection process should not choose invoice factoring as their first cash flow funding solution.
The ability to receive fast access to capital when cash flow is an issue can be an invaluable resource for some companies. Invoice factoring provides this solution to companies that meet the qualification criteria. Funding can be received in as little as one business day in some cases and the process of collecting on unpaid invoices is transferred to the factoring company. This frees up time and energy while providing the capital necessary to continue operations.
However, invoice factoring is not always the right choice. When small business owners have an opportunity to secure other financing options, such as those available through banks or credit unions, those options may be more affordable in both the short and long term.
Additionally, companies need to carefully select the invoice factoring lender they work with to ensure their relationship with customers who owe on accounts receivable is not damaged. Each of these factors should be evaluated before choosing invoice factoring as a financing solution.