How the Factoring Process WorksPosted by Factor Funding Co. on September 4, 2012
If you've been considering invoice factoring, you may have a few questions about what's involved in the process. How much will you have to pay in factoring fees? Can you really get your cash quickly? What happens to the customer invoices you own? Finding out the answers to these questions and learning how the factoring process works can help you decide if this arrangement is a good fit for you.
What is Factoring?
To put it simply, invoice factoring is a short-term cash advance arrangement. A factoring company, which may be operated as part of large financial institution or may be an independent enterprise, agrees to purchase the value of your outstanding customer invoices. Generally, the factor will advance you most of the invoice face value then hold on the remainder until the invoices are paid in full.
Factoring is not a loan and you won't have to pass a credit check to qualify for it. However, the factoring company may want to ask you several questions about the financial viability of your business and the creditworthiness of your customers before deciding whether to approve your application.
How Much Does Factoring Cost?
Most factoring companies charge a small fee for invoice factoring. A typical charge may be anywhere between three and ten percent of the total invoice value. Often, the factoring fee will vary depending on the amount of invoices you decide to factor and the credit risk of your customers. A company with a large amount of invoices based on creditworthy customers may be able to pay just three percent to factor their accounts receivable.
It is also important to note that a factoring company typically advances a maximum of 85 percent of the invoice value. Some companies may only advance up to 60 percent, particularly if the invoices pose a bit of a credit risk or if the customer in question has a history of paying invoices late. The remaining funds are issued after the invoices are cleared.
What Happens to the Invoices?
When you factor accounts receivable, you are actually selling your invoices outright to the factoring company. This means that you are also relinquishing the responsibility of collections. Instead, the factoring company will perform the typical accounts receivable duties, including filing, making collection calls, and sending out additional invoices.
For some entrepreneurs, invoice factoring is an excellent way to get fast cash they need for business expenses or unexpected costs. Factoring may be an ideal business solution for your company as well.