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The main difference between invoice factoring vs. invoice financing is who collects on the business’s unpaid invoices. In invoice financing, the customer retains full control of collections. In invoice factoring, the factoring company purchases the unpaid invoices and takes over collections. In both cases, businesses are advanced around 80% of their unpaid invoices upfront, with the remaining financing (minus fees) coming after the customer has paid the invoice.
If you’re a small business owner frustrated by outstanding accounts receivables, you’re definitely not alone. Over 60% of invoices are paid late, and 20% are over two weeks late. Late payments can leave you short on cash, preventing you from paying your employees, making rent, or moving forward on important business opportunities.
Both invoice financing and invoice factoring are possible solutions to dealing with slow cash flow. However, invoice financing and factoring differ in important ways when it comes to the structure of the financing and how payment is collected from the customer. We’ll cover the similarities and differences here, as well as recommend some specific providers, so you can start improving your cash flow today.
Also known as invoice discounting, invoice financing refers to borrowing money against your outstanding accounts receivables. A lender gives you a portion of your unpaid invoices—usually 80% to 90%—up front, in the form of a loan or line of credit. Once your client pays the invoice, you’ll pay the lender back the amount loaned plus fees and interest. In this scenario, your business is still responsible for collecting outstanding money owed by your clients.
In some cases, the invoice financing provider will sync up with your accounts receivable systems behind the scenes. When your customer pays the invoice, they might automatically deduct their fees before forwarding you the balance. Invoice financing suits businesses that need money quickly and feel confident they can collect on the outstanding invoices owed to them by their customers.
Let’s say you you’re ABC Wholesaler, a wholesaler for restaurants. You send a $5,000 invoice to Rita Restaurant for ingredients that you sold to her. The terms of the invoice are NET 30, so Rita has a month to pay. In the meantime, you need money to pay your staff, so you go to an invoice financing provider for an advance. They advance you 80% of the invoice—$4,000—up front.
You follow up with Rita for payment, and she pays within the month, sending you a check for $5,000. You keep $850 for yourself and send the remaining $4,150 to the invoice financing company. In total, you receive 97% of the invoice value—$4,850. The invoice financing company receives $150 in fees.
Invoice factoring is a form of invoice financing—with a twist. An invoice factor purchases the accounts receivables you’re owed and takes over collecting from your clients. With invoice factoring, the lender will pay you a percentage of the total outstanding invoice amount upfront. Then, they’ll take responsibility for collecting the full amount. Once they collect the full amount, they’ll advance you the difference, keeping an agreed-upon percentage for their service. Your clients will deal with the factoring company to make their payment in this scenario, not you.
Accounts receivable factoring might be suitable for businesses with outstanding accounts receivables in the 60 to 90 days or longer time frames, or for those who don’t want to recover outstanding receivables on their own. However, since you offload collection responsibilities to the invoice factoring company, invoice factoring is typically more expensive than invoice financing. The factor accepts the risk that your customer might not pay the invoice, so they’ll charge more.
If you use invoice factoring, make sure you’re okay with someone else interfacing with your customers for payment. The fact that you’re not handling the payment yourself might give away that you’re using financing. But some factoring companies will be as vague as possible, so it seems like they are a representative of your company when they contact customers.
Assume that you’re ABC Wholesaler again and that you’ve sent a $5,000, NET 30 invoice to Rita Restaurant for an order of fresh ingredients. You need the money soon, so you contact an invoice factoring company. The factor purchases your invoice and sends you $4,250 up front to use for any business purposes.
Then, the factor follows up with Rita to collect payment on the invoice. She pays before the deadline and sends her check directly to the factoring company. The factor deducts their fee of 4% and sends you $550. In total, you receive 96% of the invoice value—$4,800. The factor receives $200 in fees.
Whether you’re using invoice financing or invoice factoring, there are some benefits to this form of business finance—primarily that it can smooth out cash flow issues very quickly. Businesses can use invoice financing and factoring to pay staff and regular bills without having to wait for payment on outstanding invoices to arrive.
Also, whether you’re using invoice factoring or invoice financing, it might be the only option available to you if you can’t get other types of business financing. Since these lenders look more at your invoices and less at your business’s financial health and your credit, you might find this type of financing easier to secure than others.
A benefit to invoice factoring, in particular, is that it guarantees at least some of your outstanding accounts receivables and removes the headache of collections from the already busy life of a business owner. If your business deals with numerous late-paying customers or unpaid invoices, invoice factoring can be an option to ensure that you do get at least some of what’s owed to you, giving you the cash necessary to stay afloat.
Another thing to note with invoice factoring is the limited risk to your business of not collecting outstanding payments. Once the factoring company takes over responsibility for collecting the receivables and you have your cash in hand, they’re taking over the risk that your clients won’t pay. Unlike a business loan, where you have to make payments whether your clients pay you or not, invoice factoring removes that risk from your books.
While invoice financing might seem like a simple and fast way to deal with cash flow issues, it can be expensive, especially since your fees will be dependent on when the customer pays you back. Typically, a certain percentage—around 1% to 4.5%—is charged each month that the invoice remains outstanding.
Additionally, as we mentioned above, if you choose the factoring financing route and the lender deals with collecting the outstanding amounts from your customers, there’s no hiding the fact that you’ve entered into a factor agreement. This might be a signal to customers that your business is in trouble. Fortunately, most factoring providers want your continued business, so they will try to keep things as discreet as possible and portray themselves as a representative of your team.
Two top providers of invoice financing are BlueVine and Fundbox, both of whom are accessible through the Fundera platform. Here are some details about both.
BlueVine’s invoice financing product provides between $20,000 and $500,000 in capital. There’s a fee of 0.4% to 1% each week that the invoice is outstanding. Your unpaid invoice should have a value of at least $500 with a due date no more than 12 weeks out. The application process is quick with BlueVine. You apply online and can receive your advance in as little as 24 hours.
BlueVine won’t notify your customers that you are receiving advances for their outstanding invoices—so the relationship stays between you and your customer. When the invoice is due, your customers simply pay your BlueVine account, instead of sending payment to your business address. The BlueVine account number is an anonymized number, so your customers shouldn’t be aware that you’re financing their invoices. As long your customers pay on time, there’s nothing that you have to repay to BlueVine. BlueVine will deduct their fee and send you the balance.
Business owners with a 600 credit score, six months in business, and $120,000 in annual revenue are eligible to apply for BlueVine.
Fundbox also provides invoice financing for small business owners. They provide up to $100,000 in capital, at a fee of 0.5% to 0.7% per week. There’s no minimum credit score or annual revenue required, so it’s even easier to qualify for Fundbox than BlueVine. However, Fundbox is not a typical invoice financing or factoring company.
Fundbox will extend you a line of credit, and your invoices simply serve as proof of your ability to pay. It’s similar to any other asset-based financing. Fundbox will extend you 100% of the value of your unpaid invoices, and you continue to have control over collecting payment from your customers. You pay back a portion of the borrowed amount each week, until you’ve paid in full. You can choose to pay back over 12 or 24 weeks.
The application process with Fundbox is even easier than BlueVine. You simply connect your accounting software or payment software to the application. Fundbox will do a health assessment of your business, and if you’re approved, they’ll automatically pull up your unpaid invoices and extend you credit.
See If You Qualify
Many small business owners feel frustrated by the difficulties of meeting current expenses, debt repayments, and other financial obligations. First, you can try the simplest, most effective ways to manage your cash flow. For example, send invoices early, offer discounts for customers who pay early, and use online accounting and payment systems to make it easier for clients to pay. It might be prudent to try these tactics first. If cash flow still doesn’t improve, then consider invoice financing or factoring or another type of business financing.
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