Accounts Receivable Factoring

Accounts receivable factoring is a business funding solution that allows you to exchange your unpaid invoices for cash. Instead of waiting weeks or months for customers to send payments, accounts receivable factoring gives you immediate access to working capital.

By improving your liquidity, you’ll be in a stronger position to fulfill your business’s functions and needs.

Accounts receivable factoring, also called invoice factoring or factoring receivables, gives you an advance on your unpaid invoices. Whether your customers are slow or if you’re a healthcare practitioner waiting on insurance companies to process payments – you don’t need to allow third-party issues to affect the way you manage your business.

You can make use of accounts receivable factoring to cover almost any type of business expense. From managing working capital expenses, financing new projects, investing in marketing campaigns, and more.

Accounts receivable factoring is sought-after by many industries, but it’s especially common among the following types of businesses:

• Wholesale distributors
• Transportation companies
• Contractors
• Tech companies
• Medical and dental practices
• Automotive shops
• Manufacturers
• Service businesses

Accounts receivable factoring is not a traditional business loan. Instead, it functions more as an advance on your business’s unpaid invoices.

It’s important to keep in mind that you won’t receive the full dollar amount of your unpaid invoices. The financing company will retain a certain percentage. However, you should be able to keep about 90% or more of their full value.

Accounts receivable factoring only comes into play after your business has delivered the goods and services to the customer. First, a business owner essentially sells their accounts receivables to a lender. These receivables will act as collateral, in case of foreclosure.

Borrowers then receive a revolving line of credit in exchange. This credit line offers a fast and flexible source of capital that they can then draw from as needed.

Here’s a glimpse at how the process works:

1. You’ll send an invoice to your customer after having delivered the goods and services promised. At this point, you should have an estimate of how long it will take the customer to submit payment.
2. You’ll approach a lender with your need for accounts receivable financing. They’ll take into account the value of your outstanding invoices as well as the creditworthiness of the customer.
3. Your business will get the invoice amount, minus a small fee. You can typically opt to receive funds in a lump sum or in the form of a business line of credit. Make sure to consult with your lender on what would make the most sense for your business.

There are two main types of accounts receivable factoring – recourse factoring and non-recourse factoring. Here’s how the two compare.

1. Recourse factoring

Recourse factoring is when you’ve sold your unpaid invoice to the lender, you’ve collected your funds, but you’re ultimately still responsible if the customer refuses to pay. If this happens, you’ll be in debt to the lender you’ve worked with and have to manage collection efforts from the customer yourself.

Factoring receivables with recourse are the most common type of setup. Although you’ll be taking on extra risk in case your customer refuses to make payment, you’ll pay a smaller fee when you receive funds upfront.

2. Non-recourse factoring

Non-recourse factoring is when the lender takes on the entire responsibility for the unpaid invoice. They will pay you upfront and then deal with your customer directly to recuperate the unpaid amount. If the customer refuses to pay, the lender will have to manage collection efforts.

Non-recourse factoring is riskier for lenders. To compensate, they’ll charge you a higher fee, and you’ll receive a smaller portion of your invoice. Your customer’s creditworthiness will also be an important determining factor throughout the approval process.

In general, it’s easier to qualify for AR factoring than for other types of business funding solutions. The process is also much faster, and you may be able to receive your funds in just a few business days. In order to qualify for AR factoring, you’ll need to have:

1. Established invoices

AR factoring only comes into play once you’ve delivered the goods and services to the customer, submitted your invoice, and you’re waiting for payment. You’ll need to show established invoices with details of the transaction.

Accounts receivable factoring journal entries should contain prices, dates, customer information, payment timelines, and more. Lenders will review the value of your unpaid invoices into their factoring accounts receivable formula to determine your possible funding amount.

2. Customers with good credit

With AR factoring, your customer’s credit score will matter more than your own. This is because the lender is relying on your customer’s ability to pay the invoice – not your business.

For this reason, AR factoring can be an accessible financing solution if you haven’t built up credit or if your business’s credit score isn’t in the best shape.

3. Customers in good standing

Alongside reviewing your customer’s creditworthiness, the lender or AR factoring company will want to know your customer has a solid reputation and that their business is in good standing.

In general, lenders will approve customers that are businesses or government agencies, but you may run into difficulties if you’ve sold to an individual buyer.

4. Business history

Most lenders will want to see that your business has been operating for a certain amount of time before approving you for financing. When you work with National, you can qualify for AR factoring with as little as 6 months of business history. This can be a great solution if you’re a newer business or a startup.

5. Revenue requirements

While the value of your unpaid invoices will determine your funding amount, your business will also need to meet certain revenue requirements to qualify in the first place. National is able to supply AR factoring to businesses with a minimum monthly revenue of $40,000.

Accounts receivable lines of credit follow True APR, which is a generally lower and more cost-effective means of interest compared to factor rates. They are common among small business loans.

1. Account Factoring Rates

Account factoring rates tend to be on the middle to lower end of business financing. You will be paid the majority of the value for your unpaid invoices, with a small percentage taken by the lender as a fee for the service. The specifics can vary according to your customer’s creditworthiness and other details, but generally, you should receive as much or more than 90% of your total unpaid invoice’s value.

Account factoring rates start at the prime rate, typically between 3.5% to 4%, and go upwards from there. Because your funding is secured by your unpaid invoices, you’ll find account factoring tends to be a more affordable type of business financing.

2. Account Factoring Terms

Account factoring terms are flexible, and you may be able to choose how you’d like to receive your funds. Many businesses will opt to receive their proceeds from account factoring in the form of a business line of credit.

A business line of credit is highly adaptable to your financial needs. You’ll receive a credit limit which you can draw from as you go and only pay for the funds you use. Plus, once your balance is paid down, the same funds will once again become available to use.

3. Account Factoring Funding Amounts

Account factoring funding amounts depend on the total value of your unpaid invoices. In general, you should expect the amount you’ll receive to be slightly lower than the value of your invoices. With National, you may be eligible for funding amounts as high as $25 million.

Here are the terms that come with AR financing through NBC:

• Financing Amount: AR Factoring offers amounts anywhere from $10K-$5 Million
• Flexible Terms: With revolving credit lines mentioned earlier, you are in total control as to how you manage financing your business
• Time to Fund: 2-5 days; minimized paperwork and expedited funding makes AR factoring one of the fastest financing options available

Every business is different, so AR factoring might not have the same benefits for one business as it does for another. However, here are a few common advantages and disadvantages of this financing option that we’ve seen across our clients.

Advantages

• Take advantage of new opportunities
  • If you don’t have the funds to seize on new opportunities as they arise, your business could miss out. AR factoring gives you the liquidity you need to make the most of your business’s potential.
• Solve challenges on the spot
  • Challenges and unexpected expenses can flare up from time to time. When this happens, AR factoring provides your business with much-needed capital to get things back on track. Use funds to pay employees, purchase supplies, buy inventory, cover overhead expenses, and keep your business running smoothly.
• Avoid debt
  • AR factoring is different from traditional business loans in that you won’t necessarily be taking on debt. This means you can get much-needed funds for your business without dramatically altering your business’s financials.

Disadvantages

With AR factoring, your customers will no longer be paying you directly for a set invoice. Instead, they will be paying the lender or AR company. This can alert your customers about your potential cash flow issues, which may or may not be an issue for your business.

You’ll also be taking on a certain level of risk with AR factoring. In case the customer refuses to make a payment, you could be responsible for the sum. There are ways to avoid this setup, but you’ll have to pay a higher fee for funding.