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Use your invoices to get the extra cash flow your business needs.
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What is invoice finance?
Invoice finance can put your mind at ease by anticipating the money your customers owe you in exchange for a fee. If your business relies heavily on invoices and your cash flow is subject to fluctuations as a result, then invoice financing can offer financial breathing space.
Invoice finance is a form of secured business lending that allows you to borrow money by using your unpaid invoices as collateral. Instead of waiting for your customers to pay for the service you provide, you’ll get most of the cash right away.
In return, you’ll have to pay an interest rate for each invoice, plus an initial fee, to the company that provides the service.
Invoice discounting vs factoring
There are two commonly available types of invoice finance – here are the definitions of both:
- Invoice factoring. The finance company effectively buys your unpaid invoices and is in charge of collecting the debt from your customers.
- Invoice discounting. The finance company lends you money against your invoices, but they still belong to you. You’re still in charge of dealing with your customers.
Invoice finance is quite expensive, but it can also be easier to obtain than, for example, an unsecured business loan. Since your invoices act as collateral, the lender can afford to take some extra risk with your business and may be able to lend you money even if you haven’t been around for a long time or if your company credit score isn’t great.
Invoice factoring: how does it work?
If you set up invoice factoring (also sometimes called “debt factoring”), you’re selling some or all of the credit you have with your customers to a finance company.
The company will pay you the majority of the invoices’ value right away – usually up to 85-90% of it within 48 hours – and the rest when the customers pay it, minus the agreed charges.
If you sell all your invoices to the finance company, you can do without a credit department because the company will do the dirty job of harassing your clients to get the money they owe you. However, this comes at a price, so invoice factoring is usually more expensive than invoice discounting.
Pros and cons of invoice factoring
Pros
- You outsource credit collection
- Better cash flow for your business
- Can be available even with bad credit
- Your credit limit effectively grows as your company grows – the greater the volume of invoices you raise, the more you can borrow
Cons
- More expensive
- Your clients will know, as you won’t be the one collecting payments, and it may damage the image of your company
- Your clients may prefer dealing with you directly
- Not much flexibility, as often you have to pre-arrange how many of your invoices the company will buy and for how long
- You may be asked to finance all your invoices
Need more flexibility? Consider invoice trading
Invoice trading is a flexible version of invoice factoring. Instead of selling your invoices to a finance company, you use a dedicated platform to sell them to single individuals or groups of individuals.- You can decide which invoices you want to sell and opt out at will.
- You’re still outsourcing credit collection but only of a limited number of invoices.
Invoice discounting: How does it work?
In terms of cash flow, the basics are the same: you get up to 85-90% of your invoices’ value immediately in exchange for a fee. However, the finance company is effectively lending you the money against your unpaid invoices.
Your invoices remain yours, and so do the credit and the responsibility that come with it. This means you will still need an effective credit department to chase down the invoices as necessary. The amount of the fees you are charged will depend on how long it takes your customers to pay the invoices, and in some cases, if the customer doesn’t pay you back within the established period, the finance company may take its money back.
As you’re still the one dealing with the customers, they won’t need to know you’re using invoice discounting and the fees will usually be lower.
Pros and cons of invoice discounting
Pros
- You retain control over credit collection
- Your customers don’t necessarily need to know
- Better cash flow for your business
- Can be available even with bad credit
- Like invoice factoring, the more money your business makes, the more you can borrow
Cons
- You’ll be directly responsible for credit collection
- There may be extra fees if a customer is late
- Not much flexibility, as often you have to pre-arrange how many of your invoices the company will buy and for how long
- You may be asked to finance all your invoices
How to compare invoice finance providers
Depending on the financial needs of your business, here are some of the things you may want to check before picking your invoice finance provider:
- Factoring/discounting fee. How much of the invoice value will the financial company retain?
- Opening fee. There’s usually an initial charge to set up the service.
- Immediate cash. When you send out an invoice, you’ll get a percentage of its value immediately and the rest when the customer pays. Make sure you check how much you get immediately – the more it is, the better value you are getting from your fee.
- Length of commitment. Some providers require a 12-month or 24-month minimum commitment, while others offer shorter term options.
- Number of invoices involved. Does the provider ask you to finance all of your invoices or only some of them? How many?
- Bad debt protection. What happens if one of your customers doesn’t pay you back? Are you protected or is there an extra fee to pay?
Is invoice finance right for my company?
Invoice finance is generally good for businesses that have a fluctuating cash flow. For example, a company may have a few big customers that are powerful enough to demand long credit terms or the company’s line of work has high initial costs (that can be due to the need to buy expensive raw materials, for instance).
Invoice finance can also be a good choice if your company is growing quickly because the amount of money you get is flexible and ultimately depends on your turnover.
On the other hand, invoice finance companies usually only offer business-to-business services, so if most of your turnover (and your financial issues) comes from the public, it probably isn’t what you’re looking for.
Moreover, don’t forget that if you have a good credit score, or if you own assets that allow you to secure the loan, a regular business loan may be a cheaper option.
Alternatives to invoice finance
Invoice finance tends to be expensive, so make sure you’ve exhausted all of the alternatives before going for it.
- Apply for a credit card or overdraft. If your credit score is good enough, a business credit card or overdraft may offer a cheaper alternative to invoice financing.
- Apply for a business line of credit. An ongoing business line of credit puts an emphasis on flexibility. You only borrow what you need, when you need it and for as long as you need it (subject to agreed limits).
- Apply for a business loan. There are multiple types of business loans, one of which may be available to you at a cheaper price. Check Finder’s guide on business loans to learn more.
- Raise money from investors. A crowdfunding campaign may also be worth a shot.
- Apply to a government scheme. You can find information on how the government can help SMEs here.
Is my business eligible for invoice finance?
Eligibility criteria tend to change from provider to provider, so don’t forget to check them before applying. You don’t want to waste your time with an application if your business doesn’t meet them.
As a rule of thumb, invoice discounting requires a higher turnover than invoice factoring. Usually, both new and established businesses can apply, but in some cases you’ll need to have been around for a minimum amount of time (for example 6 or 12 months).
Finally, if your business exports products and your invoices are paid by clients overseas, some lenders may add extra conditions or be unable to help.
Frequently asked questions
We show offers we can track - that's not every product on the market...yet. Unless we've said otherwise, products are in no particular order. The terms "best", "top", "cheap" (and variations of these) aren't ratings, though we always explain what's great about a product when we highlight it. This is subject to our terms of use. When you make major financial decisions, consider getting independent financial advice. Always consider your own circumstances when you compare products so you get what's right for you.
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