Invoice factoring is a financial transaction where a business sells its accounts receivable (invoices) to a third party (factor) at a discount. This provides immediate cash flow rather than waiting for customers to pay their invoices.
When you factor an invoice, you typically receive an advance of 70-90% of the invoice value immediately. The factor collects payment from your customer, then pays you the remaining balance minus their fee. This is a popular financing option for businesses that need quick access to working capital.
Invoice factoring is beneficial when you need immediate cash flow but have outstanding invoices with payment terms. It's commonly used by businesses experiencing rapid growth, seasonal fluctuations, or those with customers who take a long time to pay.
While similar, invoice factoring involves selling your invoices, whereas invoice financing uses invoices as collateral for a loan. With factoring, the factor typically handles collection, while with financing, you retain control of the relationship with your customers.
When evaluating invoice factoring, consider the total cost including the factoring fee, any additional charges (application fees, wire fees), and the opportunity cost of the reserve. Calculate your effective annual percentage rate to compare with other financing options.