A company utilizes a factoring service for transactions involved selling a company’s services or account receivables to a financial company. The financing company collects payments from the businesses’ customers. This is also commonly known as accounts receivable financing.
The reason why companies opt for using these services is because they want to receive cash immediately instead of waiting for 30 to 60 days, as they’ll likely be waiting for their customers to pay. One of the main challenges that small businesses face is building their cash flow. The services of factoring companies help improve cash flow, making it easier for the companies to handle customer orders, pay employees, and increase their business capacity.
How do factoring services work?
To qualify for business factoring loans, your customers’ accounts should be in good standing. There are factoring services that consider other things such as how long the business has been running and the business’s annual revenue. The factoring service conducts thorough investigations to determine if your customers are creditworthy, which determines whether a customer is capable of paying the invoices on time.
Once the customers are approved, the factor inspects the invoices and checks for completeness and accuracy. The factor also reviews outstanding invoices and verifies if the invoices are genuine, dates are correct, and the products and services are accepted or received. If everything is correct, the factor proceeds to send the customers a notice instructing them to send the payments to the factor directly.
Advance
After you selected the invoices for factoring, the factor will then advance the money to you. In most cases, the amount factored is between 70 to 90% of the total invoice value. The company will most likely transfer the money through ACH transfer, which takes about two business days to go through. You can also opt for a wire transfer but will have to pay a fee for receiving the money on the same day.
When the customers have completed paying the invoices, the factor will forward the balance to you without the service fee. These factoring services are crucial to business owners because they want to be paid immediately for their work.
Cost of Invoice Factoring
The cost of invoice factoring, also known as the discount rate, is usually between 2 to 6% of the total amount invoiced. Many factors determine the specific rate such as invoice size and volume, creditworthiness, industry risk, customer base, billing structure, and customer’s credit history. If the customer has a poor credit history, the fees are higher.
When asking for a quote, you should ask whether the rates are weekly or monthly and the frequency at which the rate increases. You should inquire if the rate is on the advance amount or the total amount in the invoice. Most companies advance between 70 to 90% of the total invoice amount.
Advantages of Invoice Factoring
The biggest advantage of factoring is quick access to cash. Factoring is a short-term solution which keeps your business running as you wait for the customers to clear their dues. Another advantage of factoring is that it helps business owners to seize opportunities that are time-sensitive to grow the business. The business also benefits because the factor will provide security for your company’s finances and accounts receivable management.
Different companies have different rates and fees. When choosing a factor, examine the fee structure keenly. Make sure that your factor is clear about the rates, fees, and terms of factoring contract — give Eagle Business Credit a call today to learn more!