Factoring has become a popular cash flow solution: many businesses are now opting to use factoring services as a way of freeing up the cash tied to invoices and ease the strain on cash flow. Whilst there is a lot of technical jargon to work through, the process of factoring is actually very straightforward.
How does a factoring agreement work?
The process works in a few simple steps:
- Your business provides goods or services.
- An invoice is raised (therefore the customer is buying on credit)
- The invoice is sold to a factoring company. This stage may sometimes require a credit approval process either electronically or over the phone.
- The factor provides immediate payment for the invoice. Depending on the factoring contract, this will be for around 80%-90% of the invoice total, which is the advance rate.
- Your business receives funds.
- The factoring company issues a statement to the customer (the account debtor) and collects payment (chasing for however long this takes). Payment will be made to the factoring company’s bank account.
- The factor maintains a ledger for all invoices and provides bookkeeping services, including reports, recording interest and all money received. This happens at every step.
- The full amount is received from the customer.
- Any remaining money can be released from the invoice and a small administration charge will be applied.
- If the debtor does not pay, the factoring company will find a solution depending on your contract type: with a non-recourse factoring arrangement the funder will not demand money back from your business. However, if a recourse contract has been entered into, the invoice financing company will demand payment back.