Factoring – Alternative Financing for Some Businesses

factoring

What Is Factoring?

Factoring is a method of alternative financing that is often confused with accounts receivable financing (invoice discounting). Accounts receivable financing is explained elsewhere on business-money-source.com.

The primary difference between the two business financing methods is that with this method the invoices are sold at a discount whereas with accounts receivable financing the invoices are used as collateral to secure a loan. The face value of the invoices is also discounted in receivable financing. The loan granted is for a percentage of the value of the invoices, usually in 70% - 80% range. Apply for factoring.


This is not a loan. It is the sale of a business asset, your receivables. There are two other basic differences between this type of business money and getting a loan. Since your invoices are being sold, it is not your credit rating that is critical but the credit ratings of your customers who owe you. Therefore, the company purchasing your receivables looks more critically at your customers’ credit ratings than your own. The third and final major difference between selling receivables and a loan is that a loan usually requires two principals, you and the lending entity. Selling receivables involves three, you, the funding source and your customers.

The company that purchases your receivables obtains the right to receive the payments made by your customers (the debtors). This company also assumes the risk of default of payment by your customers. In order for this system to work the way it is suppose to, your customers will have to be notified of the sale of their debt obligations. Your customers will then pay the company who purchased your receivables directly. The company that purchased your invoices will also be responsible for collections in the case of default. You, the seller will not be allowed to collect payments made by your customers after the receivable is sold.

The are three basic parts to this transaction:

1. The advance: the percentage of the face value of the invoice that is paid to you at the time of sale of your receivable.

2. The reserve: the amount of the invoice that is withheld until the funding organization receives payment from the debtors (your customer).

3. The fee: the cost to you for your participation in the transaction. You may also be charged a service charge if the factor has to wait a long period of time to receive payment.

There will most surely be a percentage of receivables that will be uncollectible. The company buying your invoices will take this fact of business into account when determining the fees charged to you.

Apply for factoring here.


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