Get to know invoice financing
Gerri Detweiler • January 7, 2021
Advantages and disadvantages of invoice financing
Invoice funding (or accounts receivable funding) has a lot to offer in the right situation, but there are also downsides to be aware of.
Benefits of invoice financing for small businesses
- Fast approval, minimal paperwork
- Help alleviate cash flow emergencies
- Often flexible credit
If you are looking for a quick way to get a short-term type of financing, invoice financing solutions could be a solid option. Because the bills themselves serve as collateral, you won’t need to put up other assets to borrow money.
The application and approval process is much faster than with traditional loans, and you can see the funds deposited into your account in as little as one business day. And the fees, while higher, are clearly identified in advance so you know the cost of borrowing.
Disadvantages of Invoice Financing for Small Businesses
- Relatively high rates / cost
- Need invoices as proof / guarantee
- Usually does not work for B2C companies
The biggest downside to billing finance solutions is the high cost. While quick approvals can help you solve immediate financial problems, you’ll pay for the convenience.
The fact that your warranty is your invoice may mean that certain types of businesses will not immediately qualify. B2C (business-to-consumer) businesses looking for financial help may be out of luck, especially if their cash flow is from a point of sale rather than long term invoices. Additionally, the discount rate you will receive for your invoices means that you are essentially losing all of the invoice income that would have been earned over time.
What is invoice financing?
Bill financing, also known as debt financing or bill negotiation, is a form of asset-based lending that allows businesses to borrow money on unpaid customer invoices. In exchange for quick access to cash, a business pays a finance company bill a fee, sometimes a percentage of the amount borrowed.
Types of funding to be received
- Invoice factoring
Common for small businesses in industries like apparel or manufacturing, where long accounts receivable is part of the normal business cycle. Factoring usually means that the invoice factoring company buys the invoice with a discount. This company is now responsible for collecting payments on invoices. You typically receive 50-80% of the invoice value up front (also known as an invoice discount) depending on your customers’ risk profile. These factoring fees can be structured in a number of ways, but they are typically around 3-5% of the invoice value.
- Bill financing services
Like factoring, except it’s not a sale of your accounts receivable. Invoice financing works by using accounts receivable as collateral to secure an advance, but you are ultimately responsible for collecting payments. If your customers’ payments become past due, you will be responsible for the amount advanced to you. Charges are typically 2-4% of the value of your bill per month.
- Debt-Based Line of Credit
A line of credit based on a percentage (usually 80-85%) of the value of your unpaid receivables. The value is calculated based on the age of the invoices. You will pay a pre-negotiated interest rate based on your balance. When an invoice is paid, your balance will be reduced. There is usually a fee when you draw the line of credit, but it’s usually a cheaper option than invoice factoring or invoice financing with an APR often below 20%.
Use Nav’s free invoice financing calculator to convert the cost of invoice financing to an annual percentage rate (APR) so you can compare the cost to other financing options.
Recourse factoring: a quick lesson
You might have noticed something interesting above: With invoice financing, it’s you who is ultimately responsible for paying unpaid invoices from your customers.
With invoice factoring, the invoice factoring company takes care of those invoices and is responsible for collecting the payment. If your customer never pays, the lender takes that risk. This is why invoice factoring tends to charge higher fees. There is a greater risk for the company of not being paid.
It is important to understand the difference between factoring or recourse and non-recourse financing. Recourse factoring means that the company is ultimately responsible if the invoice is not paid. Non-recourse financing means that the factoring or financing company is out of luck if the invoice is not paid. Note that invoice financing or factoring does not replace debt collection.
Invoice financing offers
Looking for an invoice finance or invoice factoring company? Here are our recommendations.
Requirements to qualify for factoring or invoice financing
Due to the heavy focus on the invoices themselves, almost any B2B business can benefit from invoice financing, as long as the company responsible for the invoice has a good credit risk. If the invoices themselves make sense to the invoice finance company, they likely will. In other words: if a given customer has a history of paying on time and has a good reputation, it’s probably a good risk for a finance company.
The amount financed or factored will depend on the quality of the invoices and the credit history, which in some cases refers to the credit of the borrower, and in other cases to the credit of the company that has to pay the invoice.
Be sure to consider all of your options to determine if it makes sense to fund your bills, as it may be more than what you’re willing to pay over time. You have other financing options, including working capital loans and business credit cards.
Best candidates for invoice financing
- B2B companies
- Seasonal businesses
- B2B companies with respected customers
- Companies in industries with long billing cycles – for example, apparel, retail, manufacturing, etc.
- Companies with large invoices and Buy online
Sectors best suited for factoring or invoice financing include
- Health services and medical providers
- Marketing services
- Business advice and legal services
Factoring or invoice financing is not an ideal solution for B2C businesses or subscription revenue companies.
How to request financing by invoice?
Compared to many small business financing options, the process of applying for invoice financing, invoice financing, or small business invoice loans is a fairly quick and easy way to get money for your business. business. If your chosen invoice finance provider or finance company has an online app, even better.
Like with small business loans, the finance company will have various requirements for your application, but the unpaid invoices will be the most important component. Some may look at your personal and / or business credit, or your business finances. It’s best to ask before you start the process to find out where you have the best chance of getting approved. Some companies may work with small businesses that have bad credit, while others may be more suitable for young startups or those with lower annual incomes, so it’s worth investigating.
Nav’s verdict: Financing invoices
The overall APR, typically 15-35%, is high compared to that of banks or online term lenders. But it’s a good short-term solution when most of your short-term assets are tied to accounts receivable, which allows you to avoid the long bank loan application for a short-term loan, SBA loan, or other ways that you can look for. get the money you need so badly. It is also much better than expensive merchant cash advances. Your credit score doesn’t matter as much either. Your customers’ credit scores will also be taken into account. Therefore, it is a good solution if you have some debt but have not built up enough of your credit history to get a line of credit from a bank.