For businesses that need a quick influx of working capital, alternative financing providers offer a variety of effective solutions. Two options are receiving a lot of interest from businesses that rely on receivables to sustain their cash flow – accounts receivable financing and invoice factoring. However, many business owners don’t understand the difference between the two and often consider them to be the same.  Understanding how each option works and how they differ will make it easier to decide which one would work best for your company.

Accounts Receivable Financing

Accounts receivable financing is a short-term, asset-based loan that can be used to improve your company’s cash flow. Here’s how it works.

Accounts receivable financing is similar to a traditional bank loan. However, there are some significant differences. To secure a bank loan, you must provide collateral. Acceptable collateral includes business real estate, equipment, and may even extend to the business owner’s personal assets. With accounts receivable financing, the collateral is business assets associated with the receivables being financed. 

The amount of funding provided by this type of financing is typically 70 to 90 percent of the face value of the qualifying receivables. These are defined as invoices that are less than 90 days old and owed to you by customers the financing provider deems creditworthy. There is also a collateral management fee, which is normally 1 to 2 percent of outstanding receivables. Interest is assessed on the amount of financing received. On average, it varies from 3 to 5 percent, depending on the provider.

Invoice Factoring

Invoice factoring is similar to accounts receivable financing in that it can also provide a business with 70 to 90 percent of the face value of the invoice being factored. However, a factoring provider will purchase your invoices and your customers will then owe them. Once an invoice has been satisfied, the factoring provider will then send you the remaining balance minus a factoring fee. Factoring fees also vary from provider to provider but typically range from 1.5 to 5.5 percent of the amount advanced to you.

Because the invoices are purchased outright, there is no collateral required. The factoring provider will essentially become your collection manager for the invoices you factor. It is important to keep in mind there are two types of factoring – recourse and non-recourse.

Recourse factoring is the most common and requires you to repay the purchase amount of the invoice if your customer defaults. With non-recourse factoring, the provider assumes most of the risk, but the factoring fees are higher. Non-recourse factoring doesn’t release you from all liability if your customer doesn’t pay the factor. There are only very specific situations in which you are not responsible for customer non-payment, such as if the customer has declared bankruptcy.

Which is Right for Your Business?

The answer to that question depends on your business and the specific circumstance surrounding your lack of working capital. It can help to understand the advantages of each type of financing.

Accounts receivable financing can sometimes be the less expensive option. However, it is less flexible than invoice factoring, requiring that all of your accounts receivable be put up as collateral. In that respect, accounts receivable financing presents a higher level of risk.

With invoice factoring, you can pick and choose which invoices to sell. This allows you to minimize the risk by only selling the invoices owed to you by creditworthy customers.

At CapFlow Funding Group we specialize in invoice factoring and can help you determine if it is the right option for your business. We are dedicated to helping our clients find the best funding solution and can also connect our clients to options such as purchase order financing, inventory funding, and merchant cash advances. We service many different industries with a variety of funding needs.  Contact us today or apply online. Get the cash you need to keep your business moving forward.