Pillar Page – Invoice Factoring2020-12-07T13:39:01-05:00

Your Guide to Invoice Factoring

Need to free up cash at your business quickly? See how factoring can help you!
ei Funding hero using invoice factoring
1. Introduction to Invoice Factoring
2. What Is Invoice Factoring?
3. How Invoice Factoring Works
4. Invoice Factoring vs. Other Financing
5. Frequently Asked Questions
6. Why Choose Factoring for Your Small Business?
7. What Other Value Can a Factor Provide You?
8. Conclusion

1. Introduction to Invoice Factoring

When you think of what you need to run a business, you might first start with people, materials and an office. But all of those things cost money. So, what happens when you have payroll to make, office space rent to pay and materials to purchase to fulfill an order?

While it’s one of the best-kept secrets in business finance, invoice factoring is actually a form of alternative financing that can get you the cash you need for your business right away.

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2. What Is Invoice Factoring?

Invoice factoring is actually one of the oldest forms of business finance. It was first introduced in England in the 14th century and in the U.S. in the 17th century. So, what is it? First, let’s start with what it’s not.

What’s important to remember is that invoice factoring isn’t a loan. With a loan, you only have a finite amount of capital at your disposal, and you still have to pay back the principal amount plus interest. You also have to go through an application and approval process. Depending on how immediately you need your money, you might not have time for all of that.

Factoring isn’t a line of credit, either. With credit cards, you may have a certain amount you can use and an annual APR that could cost you thousands of dollars if you have an unpaid balance over time. If you have an APR of 17 or even 22%, financing everything with a credit card isn’t very realistic as an option. Even if you only need to use the credit card a few times, the interest can make that small principal enormous in the end, so you pay back far more than you took out.

Invoice factoring, in layman’s terms, is selling your business’s invoices to get the cash you need. You sell your invoices to a third party (a factor) and let them do the rest. With the advance from the invoice, you can get back to running your business instead of chasing down customers and aging invoices.

A factor is a third party that will be able to advance you most of the money from an aging invoice and collect on it from your customers. They can also provide you with guidance and financial advice throughout the process. When you work with a factor, you can boost your productivity instead of worrying about your outstanding receivables.

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3. How Invoice Factoring Works

Now that you know what factoring is and a bit of its history, you probably want to know how exactly it works! One of the biggest upsides of using invoice factoring is that the money you’re receiving was already yours to begin with; factoring is just an alternative way of helping you get the cash you need.

It can be difficult — especially if your customers are friends or acquaintances — to constantly follow up and chase after customers to get paid. But a factor can give you cash upfront so you get the funding you need right away.

A factor can advance you 80-90% of your invoice’s face value once you sell it, which can be a huge boost to your cash flow at your business and get things moving again. Factoring can help businesses through beginning-of-the-year droughts in accounts receivable, or help growing companies make immediate changes to their processes so they can continue on their upward trajectory.

Businesses across a variety of industries can use invoice factoring. It’s actually used across the globe, and it’s a proven method of alternative business financing. Whatever your needs are, invoice factoring is another way of ensuring you’re not leaving money on the table.

The Process for Factoring an Invoice

Here’s the basic process for invoice factoring, step by step:

  1. Goods are delivered or services are rendered and an invoice is created.
  2. That invoice is then presented for funding or “sold” to a factor.
  3. The factor pays you, the business owner, an advance that’s a percentage (typically 80-90%) of the face value of the invoice.
  4. The factor collects the payment from the customer.
  5. The factor releases any remaining amount from the invoice (minus a small fee) once the invoice is confirmed as paid.

As you can see, factoring is a simple but effective way to get cash flowing again at your business. Best of all, because it’s not a loan, you don’t have to wait and jump through the hoops of an arduous application and approval process.

The factor will screen your customers to determine their credit worthiness. Since the factor is handling Collections on your invoices it frees you up to focus on what you do best – running and growing your company. Factoring is a proven form of financing that empowers businesses to grow and get what they need, whether it’s buying more materials, hiring more staff or any other business expense they might have.

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4. Invoice Factoring vs. Other Financing

With a loan from a bank, you’ll need to first apply and go through an approval process before you ever see a cent. Even if you’re approved, you still only have access to a finite amount of capital that you’ll still have to pay back (a loan is a loan, after all). Even if you do get approved for the loan, you might not get approved for as much as you actually need, so it’s not quite a stopgap measure or a solution for your cash-flow problems.

With factoring, you don’t need to worry about a 10-year payback period or a credit check. The money the factor advances you is technically your money in the first place, and the fee a factor might charge for their services is far less than the interest you could be stuck with for a conventional bank loan.

How Factoring Compares to:

With a loan from a bank, you’ll need to first apply and go through an approval process before you ever see a cent. Even if you’re approved, you still only have access to a finite amount of capital that you’ll still have to pay back (a loan is a loan, after all). Even if you do get approved for the loan, you might not get approved for as much as you actually need, so it’s not quite a stopgap measure or a solution for your cash-flow problems.

Once you have the money from your loan, you can use it, but with interest compounded on top of the principal, you’re paying back much more than you took out. Let’s say you took out a $100,000 loan. Depending on the interest rate, you might end up paying back well over $200,000.

With factoring, you don’t need to worry about a 10-year payback and monthly payments like a term loan. The money the factor advances you is from your own invoices, and each advance is paid off when your Customer pays you 30-45 days later. So as you can see, factoring grows along with your Company growth and is a short-term financing solution to provide your Company the working capital it needs.

Credit cards are typically “for emergencies only” resources, even outside of the business world. With notoriously high APRs and extra hidden fees at every turn, credit cards can be one of the worst options for business owners who need cash right away for their business. And you still need to be approved before you can start using a credit card in the first place!

Defaulting on a credit card or a loan can have consequences for your credit score as well. No matter how many points you can rack up with purchases, or how many benefits there are attached to your card, you still need to pay off that credit card. With factoring, there is a small discount fee associated with each factored invoice but once the invoice is paid by your Customer, the transaction is closed and you’re done. No APR, no monthly fees, and no recurring interest payments.

Invoice factoring and invoice financing are two terms that sound similar but are actually quite different. With factoring, you don’t need any kind of collateral and the money you receive from the advance isn’t a loan you need to pay back.

With invoice financing, the invoice itself acts as collateral and you get a cash advance on it. However, you’re still responsible for both collecting the invoice and paying back the advance. In a way, invoice financing isn’t too different from a conventional loan. If you don’t want to deal with interest or collateral, or if you’ve been unsuccessful in collecting from your customers, factoring would be a better option than using invoice financing.

Recently there’s been a dramatic increase in small businesses employing Merchant Cash Advances as a source for working capital funding. Merchant Cash Advances, or MCAs for short, have become attractive due to their quick application process, fast access to capital, with the approval not being so heavily dependent on your Credit Score. As a result, more and more businesses, who previously may have used a credit card or their own funds for working capital, are turning to MCA lenders.

The problem with MCA loans is that many companies make two critical mistakes: first, they don’t do the math as to the size and frequency of the cash withdrawals by the lenders. And second, they often find themselves going to the well again, taking out a second, third, fourth, or more MCA loans – a term referred to as “stacking.” Stacking results in a cascade of daily or weekly, variable withdrawals from your small business bank account, the result being you lose complete control over the Cash Flow you were trying to fix when you took out the advance in the first place. Factoring doesn’t involve withdrawing money from your small business bank account, but rather, depositing money quickly into your account from the fruits of your labor – namely, as Advances made against your invoices for products or services your business has provided to your Customers. With factoring, there are no tricks, no unexpected withdrawals – just plain predictability and consistent working capital.

Factoring: the Easiest Way to Get Your Funds

Invoice factoring, compared to other conventional forms of business financing, is a much easier method of securing funds for your company. You don’t need to worry about interest rates, daily withdrawals, or having to pay off all the money borrowed plus interest at the end of the term loan. And as an additional benefit, your Factor handles the Collections, freeing you up to spend your time successfully running and growing your business.

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5. Frequently Asked Questions

Do you have factoring questions? We have the answers you’re looking for. If you’re unsure if factoring is right for you, read over our FAQs to get more information.

Can I get started with a factor right away?2020-10-09T14:09:34-04:00

After you apply to work with a factor, your information will be reviewed and you should hear back within a few business days. Once the factor knows more about your situation and your needs, they’ll know how they can best help you.

What do I need to apply for factoring?2020-10-09T14:10:58-04:00

We recommend you have all of your most important documents on hand when you apply for factoring. This includes your driver’s license, Social Security number, legal form of your business, the state of formation, articles of incorporation and your business tax I.D.

You’ll also need financial documents that account for at least two years:

  • Balance sheets
  • Profit and loss (P&L) statements
  • Corporate tax returns
  • Three months of bank statements
Won’t my customers think my business is in trouble if I use factoring?2020-10-09T14:08:12-04:00

Not necessarily. Many growing businesses use invoice factoring as a way to finance their immediate needs. For many companies, an accounts payable department handles invoices anyway, so the CEO or head of the business may not even be involved in the process at all.

Why should I use factoring if my business isn’t in trouble?2020-10-09T14:07:22-04:00

Factoring isn’t just for troubled times at your business. Often, “feast or famine” cycles can lead to a dry spell early in the year, like January. Invoice factoring can help you get through that drought.

Is invoice factoring like outsourcing?2020-10-09T14:06:33-04:00

Your factor can really be more like a financial advisor or even a partner, providing so much more than just a simple service. They can help you steer the ship that is your business.

I don’t have a great credit score. Can I still use invoice factoring?2020-10-09T14:05:25-04:00

Yes! Even if you don’t have a stellar credit score, you can still work with a factor.

Does invoice factoring require collateral?2020-10-09T14:04:51-04:00

No. Invoice factoring isn’t like a bank loan, so you don’t need to put up any assets for collateral if you want to work with a factor.

Can I use factoring for multiple invoices?2020-10-09T14:02:55-04:00

Yes. You can sell multiple invoices to a factor.

Do I have to get a credit check to apply for invoice factoring?2020-10-09T13:49:57-04:00

No. Because invoice factoring isn’t a loan, you don’t have to jump through the same hoops as you would with a bank loan.

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6. Why Choose Factoring for Your Small Business?

Constantly chasing after customers to pay can be exhausting. Factoring is one of the best methods of alternative financing to get the cash you need for your daily business operations. But what are some other benefits of working with a factor?

Invoice factoring isn’t a form of financing for struggling or distressed businesses. Factoring is a way for any growing company to get paid quickly. Each business situation is different, but at the end of the day, this kind of alternative financing is versatile and makes sure you can get what you need for your company when you need it.

Who Can Use Factoring?

Really, any business that invoices their customers can use factoring to get the funds they need. Factors can often be your best financial advisor, so before you know it, you might end up becoming a lifelong customer!

Any company can use factoring, but there are a few types of businesses that can benefit the most from using invoice factoring. These include:

    • Cable constructions services (for telecommunications)
    • Staffing services (for hotels, restaurants and rental car agencies)
    • Retail distribution companies
    • Manufacturing
    • Marketing and PR agencies
    • Craft distilleries and breweries

Factoring isn’t limited to just B2B and B2C businesses. Industries from manufacturing to professional services can use invoice factoring to their advantage. So long as you produce an invoice for goods you deliver or services you render, you can use invoice factoring.

Some of The Biggest (and Best) Reasons to Use Invoice Factoring

How do you know you really need invoice factoring for your company? If your outstanding A/Rs are holding you back from purchasing the supplies you need, making payroll, or even hiring new people, then you may want to look into financing for your company.

If you give your customers 30 days to pay their invoices, but pay your bills in 20 days, it’s inevitable that sooner or later, you’ll hit a snag in your cash flow. It may be awkward to ask customers to pay their invoices if you’re a small business and your customers are your friends. But when it’s your business at stake, having an awkward conversation and letting a factor handle collections is better than the alternative of waiting to get paid and not being able to make ends meet.

So why should you use factoring? There are a few different (but major) situations where using invoice factoring would be a good financial decision.

You’re Growing

Just like children, developing businesses have growing pains, too. And while that’s a great problem to have, you still need a solution. If you want to sustain that growth for your company, you’ll need fast and immediate access to cash. If you don’t have the liquidity to hire more staff, you could find yourself swamped with work and stretched too thin to complete it all.

Factoring is a quick way to keep pace with your growing needs, whether you need more staff or pay for new software to do your job.

You Need Liquidity Right Away

If you need to keep the lights on, pay for new supplies to ship an order or make payroll today, liquidity is everything. Factoring can often be a lifeline for businesses that have outstanding receivables piling up. In moments like those, you literally can’t afford to wait on a client to pay the invoice or go through the waiting period that applying for a business loan entails.

Imagine having access to the funds you need to make all of those possibilities happen! Invoice factoring can help make all of that happen.

You Don’t Want a Loan on Your Balance Sheet

When you take out a loan, you have the onus of putting it on your balance sheet. But in some cases, you may not have the assets necessary to secure a loan in the first place. That can include sufficient cash, A/R, inventory, machinery or equipment to collateralize debt.

Instead of trying to come up with enough assets to secure a loan, you can just sell invoices to get the money that you’re already owed for a modest fee. And because factoring isn’t a loan, you don’t have to worry about interest rates either!

You Have a Less-than-Perfect Credit History

We all know it: things can happen that ruin your credit. If you have a low credit score, though, or if you just don’t have enough credit at all, a bank can reject you for a loan. Bankruptcies or legal disputes caused by debt can give the bank the heebie-jeebies because it represents a risk to them as the lender.

You wouldn’t want to give someone $20 if you knew they’d never give it back, right? A bank also doesn’t want to give out a significant amount of money to anyone that might not be able to pay the principal and interest back in full.

The Bank Turned You Down

We’ve said it before, but the application process for a bank loan can place incredibly high pressure on a small business owner just trying to find their footing. There are dozens of reasons a bank can turn you down for a loan, like risk or having too much debt, which can make things complicated.

Having a poor credit score alone can limit your ability to take out a loan, but you can get trapped in a vicious cycle if you run to a credit card instead.

You Have Big-Ticket Customers, But They’re Slow to Pay

Your book of business might be made up of a healthy mix of “high roller” customers and smaller accounts, or you might rely on a few major accounts at your business. While it’s generally a good idea to have a balance between these big and small accounts, new and returning customers and your revenue mix at large, we all know that doesn’t always happen.

So what happens when you have a few big accounts that are slow to pay? You could end up in a feast-and-famine cycle for your cash flow. Factoring can help alleviate some of that strain when you’re waiting for your customers to pay and get you out of that vicious cycle.

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7. What Other Value Can a Factor Provide You?

When you work with a trusted and professional factor, you can rest easy that you’re working with a financial advisor that has your business’s best interests in mind. Often, a factor can also help guide you through tough or unexpected situations, especially when it’s your funding that’s on the line.

In the case of the unexpected, being prepared with a factor you can trust can make a huge difference for your business. At ei Funding, for example, we can also help with debt consolidation and P.O. financing.

Debt Consolidation

Debt consolidation is when you, as the business owner, roll short-term funding loans like Merchant Cash Advances (MCA) into one loan. This both lowers the amount of interest you pay out as well as the payback period for your loans.

Like the name implies, debt consolidation doesn’t magically make the debt go away, but it does make it a lot easier to manage. Short-term funding options like MCAs can add up quickly. Having one, two or even three MCAs to pay back can really put you under financial stress if you try to pay off everything at once.

Debt consolidation, like factoring, helps to put you back in control of your cash flow. “Stacking” too many MCAs can result in variable amounts coming out of your accounts. But with debt consolidation, you have one loan and a known amount being withdrawn from your business account each month.

P.O. Financing

P.O. financing, or “purchase order financing,” is a form of asset-based financing that enables you to fill orders for your customers. When you use P.O. financing, you don’t sell equity or take on debt. Rather, it helps you finance manufacturing transportation suppliers so you can fill an order with the invoice securing the financing itself.

P.O. financing is a little more restrictive than simple invoice factoring. P.O. financing can only be used to finance purchases that help you fulfill your customer’s order. However, it still isn’t a loan, so you don’t have to worry about a credit check or lengthy application process.

As far as business finance options go, P.O. financing can be a great choice for wholesalers, manufacturers and other similar businesses. It can be especially useful if your orders come in a seasonal cycle, with a spike that outstrips your liquidity or available capital to fill the order.

As you can see, a factoring company can help you with more than just invoices. Debt consolidation, P.O. financing and invoice factoring all exist to help you and other other business owners free up capital and help your overall cash flow.

When working with a factor, you’re working with a financial advisor and business partner. Beyond invoice factoring, you can consolidate your debt and keep fulfilling your customers’ orders and keep growing your company.

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8. Conclusion

Invoice factoring is a proven method of financing for your business. It’s a simple and easy way to get the funds you need right away without a bank or a credit card. And unlike going it alone, you won’t be stuck paying exorbitant fees just to get your money.

When you work with a seasoned, experienced factor, you don’t just have a service provider — you have a financial advisor and partner on your side. A factor can help you make sense of your business’s A/R and help you turn yesterday’s aging invoices into funds today.

Learn More About Factoring and Why You Need It at Your Business

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