Invoice factoring allows businesses to convert unpaid invoices into immediate cash by selling them to a factoring company at a discount. This can be useful for businesses with strong receivables but tight cash flow, though the costs can be significant.
How Invoice Factoring Works
- You deliver goods or services and invoice your customer
- You sell the invoice to a factoring company at a discount (typically 1 to 5 percent per month)
- The factor advances 70 to 90 percent of the invoice value immediately
- When your customer pays, the factor releases the remaining balance minus fees
Costs and Considerations
Invoice factoring fees can add up quickly. A 3 percent monthly factoring fee on a 60-day invoice is equivalent to an 18 percent annual rate. Key cost factors:
- Factor rate: 1 to 5 percent per month
- Advance rate: 70 to 90 percent of invoice value
- Additional fees may include application, due diligence, and termination fees
- Recourse vs. non-recourse: With recourse factoring, you are responsible if your customer does not pay
Government-Backed Alternatives
Before using factoring, consider these government-backed options that typically cost less:
- SBA CAPLines: Contract CAPLine specifically designed to finance accounts receivable.
- SBA 7(a) working capital loans: Lower rates than factoring for qualified borrowers. SBA 7(a) guide.
- CDFI working capital loans: Flexible qualification requirements for underserved communities.
When Factoring Makes Sense
- You cannot qualify for bank or SBA financing
- You need cash immediately and cannot wait for loan approval
- Your customers are creditworthy but pay on long terms (60 to 90 days)
- The cost of factoring is less than the cost of lost business opportunities
Explore All Options First
Factoring should be compared against all available options. Our free screening report identifies grants, tax credits, and government-backed lending that may provide lower-cost alternatives. Start your free screening →