Factoring: What It Is and How to Choose a Service

Allocating capital for businesses of any size can be a stressful undertaking. Traditional bank loans can take weeks to become available, and even alternative lenders may charge higher interest rates for the convenience of fast cash. The process can be frustrating, and can throw a wrench into a smoothly running business.

If you’d rather not go through the hassle of taking out a loan, you may want to consider using a factoring service. Factoring is an alternative method of finance that allows business owners to sell their invoices, or accounts receivable, to a third party (the “factor”) for a certain percentage of their total value. The factor pays this portion of the invoice, sometimes in as little as 24 hours. Then, the company collects your customers’ payments and forwards the remainder to you, minus its service fee.

This solution gives quickly expanding businesses reliable capital to carry them to their next transaction.

Any business owner whose capital is tied up in large purchase orders can benefit from factoring. One such company was EcoNuts, an organic soap nut retailer that appeared on Season 4 of ABC’s “Shark Tank.”The company was unable to secure an investment deal, but still had a large purchase order from a major retailer on the line. EcoNuts opted to work with factoring company BlueVine to successfully fill the order.

“When [EcoNuts] came to us, they were limited by their working capital they had on hand to meet that demand,” said Edward Castaño, vice president of marketing at BlueVine. “They had so many outstanding invoices from TJX [parent company of TJMaxx, Marshalls, HomeGoods and the Sierra Trading Post], that it made it hard for them to fulfill orders.”

According to Castaño, EcoNuts didn’t have the cash to purchase the supplies and cover the salaries to fill the new orders, which put their growth trajectory at risk.

“[EcoNuts] used our invoice financing solution to unlock the cash trapped in their invoices to fulfill new orders and maintain their growth trajectory,” he said.

Other benefits of factoring include a simplified accounts receivable process, less pressure to prove that you can repay a loan, and the fact that there is no collateral required to work with a factoring service.

Editor’s Note: Looking for a factoring service for your business? If you’re looking for information to help you choose the one that’s right for you, use the questionnaire below to have our sister site, BuyerZone, provide you with information from vendors for free:

A factoring service typically pays you between 70 and 90 percent of your total invoice value up front. Before accepting your invoices, the factor will conduct due diligence to determine the creditworthiness of your customers and whether they will be capable of paying their invoices on time. This is an essential step, as the factor typically does not function as a collection agency. To qualify for factoring, your customers’ accounts have to be in good standing. [See Related Story: Accounts Receivable: What Small Businesses Need to Know]

After accepting your customers, the factor reviews all outstanding invoices and inspects them for accuracy and completeness. If everything is in order, the factor requests payment from your customers by sending them a notice of assignment. This informs the customer of the service you’re using and instructs them to send all future payments directly to the factor.

Once payment has been made, the factoring service transfers the remaining balance owed on that particular invoice to you. The service also deducts its fee, which is usually between 2 and 6 percent of the invoice total. This fee is known as a discount rate, and your specific rate will be determined by your invoice volume, customer base (individual consumers versus business clients), industry risk, client credit history and billing structure.

There are two main classifications of factoring services:

Recourse factoring: This is the most common, readily available and cost-effective type. In this setup, the factor funds your invoices but requires you to provide a refund on any invoices that remain unpaid past a certain amount of time. Since the business owner assumes the risk with recourse factoring, there is a wider range of competitive rates.

Nonrecourse factoring: This type of factoring releases the entrepreneur from any liability for delinquent accounts. Since the factor is willing to take on substantially more responsibility and legwork, this type of factoring is more costly. The creditworthiness of the client roster will be more closely scrutinized in nonrecourse factoring.

No matter what path you choose for your business, the fundamentals are the same.

“The bottom line is that [the business owner] wants to get paid for their work right away,” said Kevin Gowen Sr., founder, president and CEO of AmeriFactors Financial Group. “The deal isn’t over until the customer has paid the invoice and the check has cleared the bank.”

Those in the market for a factoring solution should be aware of the different options, and discuss with an expert which one could be the best choice. Here are a few common subcategories of factoring designed to address specific business needs:

Falling within the recourse classification, this type of factoring leverages your accounts receivables as collateral to provide immediate funding. The factor may be willing to accept older invoices for a higher fee.

Invoice factoring allows decision-makers to turn accounts receivable over to a factoring service, which assumes the risks associated with uncollected invoices. The critical difference from other types of factoring is that it’s similar to a line of credit. The factor offers immediate funding, which is secured by the goods to be manufactured using the capital provided.

A hybrid of factoring and a line of credit, accounts-receivable discounting has two different varieties. In the first type, the lender provides a short-term loan using accounts receivables as collateral. The second type is similar to nonrecourse factoring in that the lender will actually purchase the invoices and will be responsible for collecting them.

Combining nonrecourse factoring with debt-collection services, a debt-factoring service assumes responsibility for uncollected invoices, immediately providing partial funding on the invoices while eliminating bad debt. This type of factoring can be more costly than others, as the factor will first explore your business operations to assess the difficulties involved in collecting on your receivables.

This type of factoring relinquishes more control of the accounts receivables to the factor. The factor manages the invoices, customer credit, payment schedule and provides funding (less the discount rate) on all invoices as they come due, whether or not the customer has actually remitted payment.

Another form of nonrecourse factoring, this type advances the entire value of your invoices, less the discount rate, up front. The factor assumes all liability for collecting debts.

Bulk factoring provides financing based on the total value of accounts receivable. Also known as in-house factoring, it allows you to take advantage of the financing opportunities of a factoring service, but maintain control of all operations related to your accounts receivables.

Those interested in factoring should begin with research. This includes determining whether factoring is right for the business, and if so, which service provider is the best fit.

“You want to work with someone that you trust and is transparent,” Einat Steklov, president of Coral Capital Solutions, told Business News Daily. “It’s good to ask questions. You want to work with a company that is experienced.”

Steklov suggests asking contacts within the business community who can provide references for a great factoring company.

“You need to trust the person who makes the introduction for you, not unlike looking for a supplier that is critical to your business,” Steklov said. “In the case of the supplier, you like to see the product when choosing it. When choosing a factoring company, you need to make sure they’ve factored before.”

The potential downside to factoring is that the service fees may add up over time, and end up being more expensive than lending. However, the higher price may be worth it for immediate access to working capital.

It’s important to view factoring as a financing strategy conducted over a period of time. Within this framework, realize that it can help you expand or recover while achieving specific long-term goals.

Generally speaking, factoring is most beneficial to those with a reliable client base with a net 30 or net 60 payment structure. Factoring is not a solution for companies in dire financial situations. If your company has substantially more accounts payable than accounts receivable, factoring is probably not a good idea.

Factoring may or may not be the right fit for your business. However, if your day-to-day operations are suffering due to large outstanding invoices, the option should be considered.

“Overall, factoring is a simple finance transaction,” Steklov said. “Factors want their clients to grow and be successful. Their success is our success as well, we grow together with our clients.”

Ready to choose a factoring service? Here are some vendors to consider:

1st PMF Bancorp

1st PMF Bancorp offers domestic and foreign factoring services with no application, startup or termination fees. They also provide competitive advance rates and prime plus bank pricing, credit insurance and more. You can also apply online.

altLINE

altLINE, a service of The Southern Bank Co., provides invoice factoring for businesses. The bank offers a free application, same-day funding and competitive rates. altLINE fits businesses who value the confidence of working with a FDIC-regulated bank, but who may have been turned down by their own bank. The program considers creditworthiness of customers and works with businesses having a limited operating history.

AmeriFactors

AmeriFactors has been in business for 25 years. The company provides asset-based loans, accounts receivable financing (factoring) and business cash advances. Apply online and receive a response, or the money transfer, within 24 hours.

American Receivable

American Receivable’s factoring services have no startup or application fees, and you can apply online and receive approval within 24 hours. There are also no repayment penalties.

Bay View Funding

Bay View Funding offers invoice factoring for businesses, and has been doing it successfully since 1985. Focused on customer service, Bay View Funding has multiple resources available to provide simple, reliable, and easy-to-understand invoice factoring.

BlueVine

BlueVine allows users to fund invoices through its online dashboard. The company has a simple rate (no long-term contracts, minimums or hidden fees) and a 24-hour approval, all backed by customer service that has earned them five-star ratings from TrustPilot and QuickBooks.

Capital Plus

Capital Plus offers factoring services with no long-term contracts, no monthly minimums and an all-inclusive fee. The company will work with businesses with limited or no credit history. In-house underwriting is also offered.

Charter Capital

Charter Capital offers factoring services for various industries, including trucking and freight services, staffing, manufacturing, security firms and more. Their services include low rates, no long-term contracts and same-day funding, and you can apply online for a quote.

CIT Commercial Services

CIT Commercial Services’ factoring services include credit protection and advice, bookkeeping with EDI (electronic data interchange), invoice and payment processing, cash management and lockbox processing and more. The company also offers notification and non-notification factoring.

Coral Capital Solutions

Coral Capital Solutions provides customers with working capital through purchase order and accounts- receivable factoring, asset-based loans, contract financing and specialty financing. The company uses its own equity to quickly provide funding.

Creative Capital Associates

Creative Capital Associates understands that a good relationship is the most valuable trait for financing success. For two decades the firm has been providing quick access to capital nationwide. Getting complicated deals done easily in a friendly manner is the mission. The company specializes its funding for the technology industry and government contractors.

Crestmark

Crestmark offers discount factoring and traditional factoring services that cover companies as new as startups to those with $100 million in sales. You can get advances daily if necessary, and they also offer accounts receivable book-keeping, web-based reporting, customer investigation and approval and more.

Factor Funding Co.

Factor Funding Co.’s factoring services feature a customized program to fit your business’s needs and have no startup or application fees. You can access your account information online or by phone, email, fax or mail 24/7. Potential customers can also apply online and get approved within 24 to 48 hours.

Interstate Capital

Interstate Capital offers same-day funding, 24/7 automatic credit approvals and rates starting at 0.49 percent per invoice. The company also offers factoring services for specific industries, including trucking and freight services, manufacturing and distribution and staffing, among others. There is no application fee, and customers can apply online.

My Factoring Network

My Factoring Network offers factoring services to all types of small and big businesses across the United States. It offers loans from certified lending partners as low as 12 percent and money is received within seven to 14 days.

New Century Financial

New Century Financial charges no application, startup or termination fees; has no long-term contracts; and lets you apply online to be approved within 24 hours. You can get up to 90 percent cash advancement, based on the credit of your customers.

Paragon Financial Group

Paragon Financial Group’s factoring services offer up to 95 percent cash advancement with no application fee, as well as approval in 24 hours. The company also offers credit protection, payroll funding and more.

Riviera Finance

Riviera Finance offers 24-hour funding and a standard cash advance of 91 percent of invoices. Also featured is an online account management system that you can access 24/7.

RMP Capital Corp.

RMP Capital Corp. has different factoring services tailored to specific businesses, including public works contractors, service providers, trucking companies and small businesses. It also offers up to 90 percent cash advancement.

RTS Financial

In addition to factoring services, RTS Financial has services for other industries, including trucking and transportation, oil-field services, and textile and apparel, and offers funding within 24 hours and competitive rates. The company’s advancement rate is up to 95 percent of the invoice amount.

Universal Funding Corp.

Universal Funding Corp.’s factoring services include 24/7 client service, electronic invoice submittal, on-demand and updated reports, with no application or startup fees. Approval can take as little as two business days.

USA Factoring

USA Factoring offers non-recourse factoring services for many industries, including agriculture, trucking and health care, and has no startup or application fees. Setup can take as little as 24 hours for new accounts.

You can read in-depth reviews of factoring services on our sister site Top Ten Reviews.

Additional reporting by Sara Angeles, Brittney Helmrich and Sylvia Rosen.

Editor’s Note: Looking for a factoring service for your business? If you’re looking for information to help you choose the one that’s right for you, use the questionnaire below to have our sister site, BuyerZone, provide you with information from vendors for free:

How much in new accounts receivable do you want to factor every month? [?] *

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