Invoice Factoring: FAQ
If you’re thinking about using factoring to boost your company’s cash flow, take a look at some frequently asked questions that many of our other customers have asked.
What is factoring?
When you sell your accounts receivable at a discount, you’re factoring. Many businesses use this to generate short-term liquidity when the cash they need is tied up in receivables that are due on 30- or 60-day terms.
How does factoring work?
You establish an account with a factoring company wherein you sell them your invoices for services and goods that you have already sold and delivered, and you receive a cash advance up front, and then you receive an additional payment when your client pays the invoice. You get the full amount of the invoice less the discount and fees.
How does this impact billing?
Your company still handles the billing, but on the invoices that you have sold, the payment address is the address of your factoring company. The exception would be if your agreement calls for the factoring company to deal with the billing directly.
How do customers know where to send their payments?
The factoring company receives an official notice indicating the proper payment address, and your invoices going forward will have that address as well.
Do factoring companies contact all of a client company’s customers?
The factoring company only contacts your clients if you sold one of those clients’ invoices to the factoring company.
Do factoring companies have to notify a client company’s customers about factoring?
Some factoring companies offer non-notification factoring, but that is extremely rare, and when it does happen, the qualifying criteria are often far more strict. However, factoring has become so commonplace that it does not carry any stigma.
Do factoring companies have a minimum or maximum invoice volume?
Not in most cases, but the larger the volume, the lower the fees, in most cases.
What is the cost of factoring?
Your industry, invoice volume and payment terms can all play a role, as can the creditworthiness of your customers. In most cases, the fee runs between 1 and 5 percent per thirty days.
How much of the invoices do factoring companies advance?
Generally, the initial invoice falls between 50 and 95%, depending on the industry, sales and delivery terms, invoice volume, time outstanding and other factors.
How are advances paid out?
This depends on your arrangement with your factoring companies. How often are you sending invoices along? Some companies do this on a daily, weekly, bi-weekly or monthly basis. Factoring companies can generally pay advances by wire transfer, ACH, teller deposit or check through the mail.
When do factoring companies pay the remainder?
Once your clients pay their invoices in full, the factoring company releases the remainder of the payment, which is the rest of the invoice amount less discount and fees.
What kind of contract is required?
Most factoring companies do not require long-term contracts, but if you are willing to sign one, the factoring company may give you more beneficial discount rates or terms.
How does a business qualify for factoring?
Is your business legally registered to sell goods or services on terms? Then you can qualify with a factoring company.
What if a business has poor credit?
Factoring approval is not made on the basis of the business that wants to sell invoices. Instead, it is made on the basis of the creditworthiness of the companies that owe on the invoices. This is one reason why factoring is so popular among businesses that are small and up-and-coming, because oftentimes they go through credit issues that make this sort of financing helpful.
Do factoring companies work with startups and small businesses?
Actually, most companies that use factoring are smaller entities and startups.
How long do accounts take to set up?
Depending on the factoring company and the client business, it can take between 1 and 10 business days. In most cases, it takes no more than three business days, and funding happens within one or two business days after invoice submission from that point.
How can a business start setting up a factoring account?
Most factoring companies have an online application that asks for some basic documentation to be uploaded. Upon approval, the factoring company sends along final documents to initiate funding.
How much is the application fee?
Generally, factoring companies do not charge application fees. However, there are due-diligence fees in many cases to take a look at your accounts for funding; those come out of your final payment.
What documentation do factoring companies ask for?
Business owners should expect to provide proof of business registration, customer lists, photo ID of the principals, invoices and a copy of the accounts receivable aging.
How do collections work?
This depends on the factoring company. In most cases, though, if the client does not pay the invoice, the factoring company will return the invoice to the client business and ask for the advance back.
Can client businesses be established anywhere in Canada?
In fact, as long as a client business sits within Canada or the United States, that business can use factoring.
How can a client business keep track of payments that run through a factoring company?
Most factoring companies provide regular reports to their client businesses.
Do client business owners have to sign a personal guarantee?
Just about all factoring companies require some sort of guarantee to affirm a client business owner’s integrity and representations as well as the owner attesting that he or she will follow the terms and conditions of the factoring agreement.
What if a client business wants to stop factoring?
The easiest way is to stop submitting invoices. After that, send written notice to the factoring company, and when all of the outstanding invoices are paid and the conditions of the contract have been met, the rest of the client business’ rebates are paid out.
Are there any disadvantages to factoring?
The cost of factoring is higher than that of a loan or line of credit – as high as 4% per month. However, it does not go on a business’ credit profile, as a loan or line of credit would.
What is purchase order funding?
This is either financing, payment or payment assurance to a supplier made on a buyer’s behalf to procure or produce and deliver pre-sold goods.
How does purchase order funding work?
If a business has a customer order but does not have the cash on hand to fulfill that order, that business can request an advance on the purchase order, use the funds to fulfill the order, and pay back the advance after the order is fulfilled or delivered.
What does purchase order funding cost?
Costs vary, but they generally fall around 5% of the funds used.
What are the minimum and maximum purchase order advances?
Most companies consider requests between $10,000 and $10 million.
What funding options are available?
Funding companies tend to prefer to use a Letter of Credit (LOC), although cash, check and credit can also be available.
Will purchase order advances be issued for a whole project or just a part?
This answer will vary by the funder, but a typical response is 100% of the cost of the goods or as much as 70% of the value of the purchase order going toward production only, not soft costs such as labor, except in cases where an exception is granted.
Can purchase order advances be taken out to pay suppliers?
Purchase order advances only go to production costs, not to pay a supplier directly.
Can purchase order advance payments go to multiple suppliers?
There are some cases where payments to multiple suppliers are possible.
How can a business qualify for purchase order funding?
A business would send in an application with support documents that show that a product has been pre-sold (but not through consignment) and that a reasonable profit margin is expected. The purchase order has to come from a business that is creditworthy and legally registered, and the invoice must be non-cancelable.
Can start-ups qualify for purchase order start-ups?
In many cases, the answer is yes.
What is the application fee?
There are no application fees.
How long does funding take?
This can range between the next business day and 90 days, depending on the length of the client business’ relationship with the funder, the type of goods, the amounts ordered, capacity for production, funding criteria and sales and delivery terms. On average, funding takes between seven and ten business days to complete.
How long do client businesses have to pay back the purchase order advance?
The expectation is that payment will come immediately from the sale proceeds after delivery. In most cases, this should not take more than 45 days from funding.
Are term commitments necessary for purchase order funding?
Most purchase order funders allow client businesses to fund a single purchase order or hundreds, depending on their needs.
Is a personal guarantee from the client business owner necessary?
Yes – owners have to affirm that they will abide by the terms and conditions of the agreement.
How does purchase order funding differ from invoice funding?
Purchase order funding happens before services or goods are delivered to the buyer, while invoice funding happens after delivery.
What is an asset-based loan?
Any loan that is secured by assets, whether tangible or intangible (such as receivables, inventory, real estate, intellectual property and the like). Often the loan is for a percentage of the asset. In most cases, the asset should be easy to convert to cash when necessary for recovery.
What assets do lenders consider funding against?
Most funders will consider just about any business asset, ranging from invoices and rolling stock to machinery.
Are there minimum and maximum loan amounts?
This will depend on the lender.
What is the application fee?
This will depend on the lender as well, but many lenders do not charge fees.
What interest rate should a client business expect to pay?
Every loan is different, so the interest rate depends on term, principal amount and perceived risk.
How long does asset-based loan approval take?
Most lenders can make an initial determination within 1-2 business days of receiving all documentation, with closing happening between two and four weeks later.
What repayment terms are normal for an asset-based loan?
The short-term requirements generally run between a 90-day minimum and a three-year maximum, although a five-year maximum is possible in some cases.
Will the client business owner’s credit influence the approval decision?
Lenders do look at the principal’s credit, but approval comes from the value of the asset itself.
Can startups apply for asset-based loan funding?
Many lenders will work with startup businesses for asset-based loan funding.
Why Should Businesses Use Factoring?
Businesses that use factoring companies need liquidity – and they often need it yesterday. If you’ve thought about ways to boost your cash on hand, consider the value of your outstanding invoices – which is what factoring is all about. Here is a list of reasons why this might be the right solution for your needs.
Factoring gives you a steady cash flow
Do you have a steady stream of orders to customers who want to wait 30 or 60-day terms? Are your orders growing in size and number, while your cash on hand to help you fulfill those orders is shrinking? Invoice factoring can help you balance the disparity and have the cash you need to grow.
Cash helps you expand
Are you ready to grow? Do you need more equipment? More employees? More square footage? Factoring the invoices you have out there can make that possible as well.
Work around maxed-out credit lines
If you’ve borrowed to the hilt, then your next solution is to take advances on your invoices. Otherwise, you’re looking at cash flow drying up – and business disaster.
Deal with slow payments from customers
Even if you have agreements in place, some customers may decide to wait as long as 90 or 120 days to satisfy their invoices, because they’re doing what’s best for them and not for you. With invoice factoring, you can receive your advances within a day or two of submitting the invoices.
Grow even when the banks turn you down
If your business credit can’t garner you a loan from a bank, you’re in luck, because factoring companies don’t use credit as their primary determining factor. Instead, they use the amount of invoices that you have coming in and the creditworthiness of your customers. So whether the issue has to do with tax liens, poor credit or other problems that have the banks saying no, invoice factoring can bring the cash anyway.
Recover from the problem of the bank work-out
There are some banks that will move away from you when they see the risk of doing business with you increasing. That can send you into instant cash-flow disaster, as you don’t have what you need on hand to run your business. If this is happening to you, a factoring company can step in and facilitate the transition from financing to factoring.
Factoring can help you survive bankruptcy
A company in bankruptcy can have real trouble getting financing from banks or even private lenders. However, invoice factoring can help you bring in cash even after filing your bankruptcy petition, because the factoring companies look at the credit of your customers, not your own. If your customers have solid credit, you still get the cash you need so that you can get things going back in a positive direction. We want to see you and your business succeed, and we provide connections with factoring so that you can overcome difficult business events that have happened in the past.
Factoring and Bank Loans and Business Lines of Credit
It is almost instinct for businesses to go to banks when they realize they need working capital. However, it can be hard to take out enough of a loan or line of credit to get the money you need for your growing business. Let’s look at some differences between financing through factoring and financing through loans or lines of credit.
If you go after a loan or credit line, you have to jump through a number of hoops. The bank checks your credit – which can end things right away, especially if your business has not had much time to establish credit. The application can take months to complete, and funding can take another month or two.
In contrast, receivables factoring requires just a few documents, and the approval comes from the creditworthiness of your customers, not your own.
Taking out a loan or line of credit also involves more risks than factoring. You have to pay principal and interest, and if you default, you lose whatever assets you put up as collateral. With factoring, you don’t have to make any monthly payments. Instead, you get an advance on your invoices, and the factoring company holds onto the rest until the client pays off the invoice, deducting your discount and any fees.
If your primary problem as far as cash flow has to do with customers who are slow making payments, loans and lines of credit can often represent just short-term solutions. It can be hard to get new loans because you still have the existing ones – and you’re still seeing the cash just trickle in because of your slow-paying customers.
With accounts receivable financing, you get the payment within a business day or two of sending invoices to the factoring company, so the cash flow does not get interrupted. This helps you grow your business and take care of your business needs today.
Finally, consider the advantage that there is no limit on the amount of factoring that you can do. As long as you have invoices to sell, you can take out an advance on it. That’s a lot more flexible than credit limits places on a loan or line of credit. So if you’re in an industry that features customers that pay mostly on 30- or 60-day terms, consider factoring as a way to turn invoices into cash.