What Are Factoring Companies?
Factoring companies are considered third-party financial institutions because they step into financial transactions between businesses and vendors, providing funds to businesses in exchange for invoices that vendors owe. Factoring companies loan a percentage of invoice totals to businesses and then either collect funds from vendors on behalf of the businesses or allow the businesses to collect from vendors and repay the factoring companies.
Whether the factoring company collects on invoices from vendors or the customer determines whether the account is being invoice factored, financed, or accounts receivable financed. These terms are often used interchangeably, so it’s important for customers to review their terms in a contract carefully and understand the fees the factoring company requires.
Some factoring companies charge only the factoring fee, which may also be expressed to customers in terms of interest charges. Other factoring companies may have a list of charges that include factoring fees and processing fees as well as fees for factors that extend beyond the initial loan period, which is typically 30 days.
Benefits of Factoring Companies
Factoring companies provide a nontraditional way for businesses to obtain financing. This may help improve cash flow, allow quick access to needed working capital, and simplify transactions through direct deposits. Factoring companies that specialize in the transportation industry might also offer discount fuel cards and a load board to help truckers save money by keeping trucks moving with profitable loads.
Factoring companies can help businesses by providing working capital for improved cash flow. Funds can be used for any business needs, such as making payroll or buying raw materials for manufacturing or fuel. Funds can also be used to cover existing debts, which may help a business owner avoid late fees or overdraft charges for automatic payments that are scheduled.
Fast funding is another benefit of using this type of third-party lender. Where a traditional loan may take several days or weeks to process, invoice factoring is typically processed quickly, and funds may be delivered as soon as the same day or within a couple of days. Invoice factoring is a convenient alternative to applying for traditional loans. Also, funds may be deposited in a provided checking account or deposited directly to a bank account via ACH transfers.
Must-Have Features of Factoring Companies
Factoring companies offer a variety of services and features, and many of those services are geared toward specific industries. For example, factoring companies that serve the transportation industry typically offer discount fuel cards to help customers save tons of money on fuel and load boards as well as help customers find loads, so trucks don’t run empty and unpaid. Some features that are common to most factoring companies include lending limits, customer portals and types of financial services offered.
When you’re choosing a factoring company, lending limits are important to know because if you need to borrow a large amount and the factoring company offers only smaller loans, you might need to keep looking to find a factoring company that handles your necessary amounts.
A user-friendly customer portal is another must-have feature to look for in a factoring company. This type of web-based portal allows customers 24/7 access to account information and tools for managing accounts, such as a tool for submitting invoices and an area for checking amounts that are owed.
Factoring companies sometimes offer different types of financial services, so it’s important to know if the one you’re considering offers only invoice factoring or if accounts receivable financing and asset-based lending are also options.
The Cost of Factoring Companies
Most factoring companies charge between 5% and 10% of the invoice amounts financed. However, rates may vary widely, and a number of factors affect rates, such as vendor credit ratings, amounts borrowed and the number of months for which the loan is being offered.
The length of the contract term may also affect the cost of using a factoring company. For example, a company may state the interest rate that’s to be charged in terms of weeks, but the loan repayment terms may be 30, 60 or 90 days, making the final cost much higher than expected if only looking at the rate that’s charged on a weekly basis.
There are also a number of additional fees borrowing companies need to watch for in contracts. These additional fees include minimum volume fees, early termination fees, plus factoring fees and rates that may vary based on the loan period. There may also be ACH fees, closing fees, a monthly access fee or over-advance fees. Some final charges to look for in factoring contracts are wire-transfer fees, same-day funding fees and fees for using a lockbox to store valuables.
Though not a cost that customers incur, one last financial thing to consider when looking at factoring companies is that some offer customers payments of up to $1,000 for successful referrals. This offers invoice factoring customers a chance to earn back some money by simply reaching out to other business associates or people who are interested in starting a business.