Invoice financing is a short-term funding to meet business expenses when cash is tight. Unlike personal loans, you borrow money from a factoring company against your unpaid invoices. Most factoring companies fund up to 85% of the invoice unpaid amount, and the rest of the money is handed over after all invoices are paid, deducting fees. Whereas you are to pay interest on top of the loan amount, invoice financing costs you only factoring fees, which are quite nominal.

Invoice financing is deemed to be the best solution for many companies when then need an instant injection of cash. Factoring companies will immediately release funds. They are quickly processed as they are not subject to lengthy and complicated paperwork and affordability checks. For instance, invoice financing does not involve a credit check.

Here are the crucial points about invoice financing:

  • Invoice financing typically lets you borrow up to 85% of the invoice value. However, some financing companies may make it to 90%.
  • You will obtain funds within 24 hours. In some cases, it may take 48 hours, but not more than that. Compared to business loans, it is the quickest funding solution.
  • There are two types of invoice financing – factoring and discounting. The former requires a factoring company to collect invoice payments, while the discounting involves you collecting payments from your customers.
  • Factoring is subject to higher fees than discounting, as the collection is to be borne by the lender.

How does invoice financing work?

Invoice financing has the semblance of secured business lending. With secured business loans, your lender has the right to repossess your business assets in case you refuse to discharge the debt. The same rule is applicable to invoice financing.

As the collateral here is invoices against which you are lent only 85% of the value, you will lose the rest of the invoice value if customers do not pay on time. However, if all invoices are paid, the factoring company will hand you over the remaining 15% of the invoice value after deducting factoring fees.

Here is how invoice financing works:

  • You sell goods and services to your customers and draw invoices in their name. The payment period could be 30, 60 or 90 days, depending on the value of the invoices.
  • When you need money to meet your business expenses, you send invoices to a factoring company. Based on the approval criteria and their policy, the factoring company will provide you with money within 24 hours.
  • Depending on the type of invoice financing, either you or your lender will collect money from your customers.
  • You will have to pay fees to the factoring company. It varies by provider.

Types of invoice financing

Here are the types of invoice financing:

  • Invoice factoring

A business loan for small business with no credit checks is not easily available, and they come with a very small amount of money that they cannot be sufficient to meet your business expenses during a cash shortage. Invoice factoring comes in handy then because it provides you with a quick injection of cash. You do not have to jump through hoops to receive money to meet your business expenses.

Invoice factoring advances you up to 90%, depending on the policy of the financing company. This kind of financing allows you to focus on your business, as your lender is responsible for collecting payments from your customers. Therefore, your customers will know that you have financed invoices.

Having collected payments from your customers, your lender would pay you back the remaining balance after deducting their fees. The fees will normally be higher than invoice factoring.

  • Invoice discounting

Invoice discounting works the same way as invoice financing, with the only difference being that you are responsible for collecting payments from your customers, and therefore, they never know that you have already financed invoices. Having collected payments from your customers, you are responsible for returning money to your provider, and retaining the portion of invoices that were not part of the financing and fees. Invoice discounting charges lower fees compared to invoice factoring.

Advantages of invoice financing

Here are the advantages of invoice financing:

  • Convenience is the best benefit. You do not need a good credit rating. No tedious paperwork is required, and hence, money is quickly disbursed.
  • Collateral does not have to be put in because invoices themselves serve as collateral against which you borrow a portion of the money.
  • You do not have to experience the hassle of collecting funds from your customers if you choose invoice factoring.
  • Invoice discounting does not let your customers know that you are reliant on financing to meet your business expenses.
  • Invoice financing is extremely flexible.

Disadvantages of invoice financing

Here are the drawbacks of invoice financing:

  • Invoice financing is deemed to be more affordable than bad credit loans with guaranteed approval, and yet they are not so inexpensive. They charge financing fees. Factoring fees are much higher than discounting fees.
  • Invoice factoring keeps your customers in the loop that they are paying to the lender. This might affect your reputation and credibility. Your customers might be judgmental about your business.
  • Bear in mind that you will be held accountable for clearing the dues if your customers do not pay money.

Tips for choosing the right invoice finance provider

Here are the tips for choosing the right invoice finance provider:

  • Fees vary by invoice company. Make sure you do research before choosing the company.
  • The funding values vary by financing companies. Some fund only 80%, while others fund 95%. Research carefully and check which one suits your needs.
  • Look for the turnaround. If you need funds immediately, you should choose a financer which provides you with funds within the same day.  

The final word

Invoice financing provides you with immediate cash to meet your business expenses. There are two types of invoice financing. Understand how they work and then decide which one suits your needs.

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