Business growth often depends on reliable access to working capital. However, waiting 30, 60 or 90 days for customers to pay invoices can hamper your operational capacity and expansion plans. Invoice factoring and invoice financing allow you to leverage those unpaid invoices to get immediate funding. But what exactly sets these two financing methods apart?
In this comprehensive guide, we’ll explain the core differences between invoice factoring and financing, including cost structures, how repayments work, and suitable business types. Read on to determine which option best meets your capital needs.
What is Invoice Factoring?
With invoice factoring, you sell your outstanding B2B invoices to a commercial finance company, called a factor, to immediately receive up to 90% of their value, minus fees. This transforms slow-paying accounts receivable into fast capital critical for daily expenses like payroll, supplies, and rent.
Since factors buy the invoices at a discount, it shifts the collection responsibility onto them going forward. The factor earns profit by collecting the full invoice amounts later from your customers. Once they receive payment, factors forward the remaining balance minus fees to you.
Key Features of Invoice Factoring:
• Sell and receive immediate funding for invoices
• Factor collects customer payments
• Ongoing factoring fees deducted
• Flexible limits and no fixed terms
What is Invoice Financing?
Invoice financing, also called accounts receivable financing, lends money against your unpaid invoices as collateral while you retain control and responsibility to collect invoice payments from customers later. You receive around 80-90% of outstanding invoice balances upfront and repay the loan as customers pay.
With invoice financing, you borrow against invoices temporarily rather than sell them outright. These loans carry interest charges but enable you to keep managing invoices and customer relationships without disruption. Facilities usually have fixed terms around 90-180 days with rollover options.
Key Features of Invoice Financing:
• Borrow against unpaid invoice collateral
• You collect customer payments
• Interest charges apply
• Set repayment terms
Factoring vs Financing: Key Differences
Now that we’ve explained both models, let’s clearly differentiate the critical variances:
Revenue Recognition
With factoring, invoices represent immediate revenue since you sell them to access funds upfront. Financing is debt that must be repaid over time.
Approval Requirements
Financing often has stricter eligibility requirements regarding annual revenue, time in business, and credit scores. Factoring focuses more on invoice quality over company financials.
Costs
You pay ongoing factoring fees deducted at the time of funding and as invoices get paid. Financing incurs interest charges over the loan period.
Invoicing & Collections
Factors take over-invoicing and chasing payments. With financing, you continue managing your AR and customers.
Flexibility & Control
Factoring allows maximum flexibility to sell invoices as needed but less control over collections. Financing has set repayment terms but retains client control.
Ideal Users
Startups and younger companies tend to favor invoice factoring to fuel growth quickly. More established businesses may prefer financing to keep customer relationships consistent.
Summarizing the Key Points
The major differences come down to factoring in fully selling invoices to receive funding immediately versus financing leveraging invoices as collateral for a loan paid back over time. Factoring also outsources collections while financing maintains internal AR management.
In essence, factoring gives you fast flexible financing and cash flow relief while financing keeps greater customer control and predictability. Assess your top priorities, capabilities, costs, and risk tolerance to decide which option best sustains your small business growth both today and into the future.