Invoice Factoring: Turn Unpaid Invoices into Cash

You finished the job, sent the invoice, and the customer's terms say net-60. Meanwhile your crew needs to be paid this Friday and your supplier wants payment on delivery. The work is done and the money is real, yet it is sitting in someone else's accounts payable queue.

Invoice factoring is built for exactly this situation. Instead of waiting, you sell your unpaid invoices to a factor, receive most of the value up front, and the balance (less fees) after your customer pays. It is closer to selling an asset than taking on a conventional loan, and that difference shapes who qualifies and how the cost is measured.

Below we explain the process step by step, the key terms you will see in a factoring agreement, and the situations where it fits and where it does not.

How factoring works, step by step

The process is straightforward once you see the sequence. You deliver goods or services to a creditworthy business customer and issue an invoice. You submit the invoice to the factor, who verifies it and advances a percentage of its value, often within a day or two. The customer then pays the invoice according to its terms, in many arrangements directly to the factor or to a lockbox. When payment arrives, the factor releases the remaining balance to you minus its fee.

1. Deliver the work and issue the invoice to your business customer
2. Submit the invoice to the factoring company for verification
3. Receive the advance, a percentage of the invoice face value
4. Your customer pays the invoice by its due date
5. Receive the remaining balance, less the factoring fee

Advance rates and fees, with a worked example

The advance rate is the share of the invoice you get up front. It commonly falls somewhere in a range such as 70 to 90 percent, varying by industry, customer quality and funding partner. The factoring fee, sometimes called the discount rate, is charged on the invoice and may be a flat percentage or accrue the longer the invoice stays open.

Say you invoice a customer $40,000 on net-60 terms. With an 85 percent advance, you receive $34,000 right away. Suppose the total fee for the period is 3 percent of the invoice, or $1,200. When the customer pays, you receive the remaining $6,000 minus the $1,200 fee, so $4,800. You end up with $38,800 of the $40,000, and you got $34,000 about two months earlier. These figures are hypothetical; actual pricing varies widely by partner and underwriting.

Recourse versus non-recourse

This is the most important clause in the contract. In a recourse arrangement, if your customer does not pay, you are responsible for buying back the invoice or replacing it. In a non-recourse arrangement, the factor absorbs the loss if a customer fails to pay for qualifying reasons, usually credit-related such as insolvency. Non-recourse protection usually costs more, and it rarely covers disputes over quality or delivery.

Read the definition of a covered non-payment event carefully. Some non-recourse contracts cover only bankruptcy, and a customer who simply refuses to pay for any other reason may still leave you holding the bag.

Keep clean records, too. Factors verify invoices against purchase orders, delivery confirmations or signed timesheets, and a missing proof of delivery is one of the most common reasons an advance is delayed or a particular invoice is declined.

Who factoring fits best

Factoring is a natural match for B2B companies that invoice other businesses or government entities and wait weeks for payment. Staffing agencies, trucking firms, wholesalers, manufacturers and contractors are common users. A distinguishing feature is that approval leans heavily on your customers' creditworthiness rather than your own, so a younger company with strong customers can sometimes qualify when other products are difficult.

• You sell to other businesses on net-30, net-60 or net-90 terms
• Your payroll or supplier obligations come due before invoices are paid
• Your customers have solid payment histories
• You can accept a third party being involved in collections

Things to check in the agreement

Beyond the headline fee, look for minimum monthly volume commitments, termination or early-exit fees, and whether you must factor all invoices or can choose individual ones. Some agreements, called spot factoring, let you sell a single invoice, while contract factoring typically requires ongoing volume. Also ask about any reserve held back, ancillary charges for wires or processing, and how notification works. Some arrangements notify customers to pay the factor, and you should think about how that fits your customer relationships.

How Fidelity Funding can help

Receivables-based options sit alongside term loans, lines of credit and cash advances in our funding partner network, so a specialist can help you judge whether factoring or a different structure suits your invoices. A short application and soft initial credit review is all it takes to begin, and options available depend on your profile and customers. If slow-paying customers are holding back your growth, start the application and talk it through.

This article is for general information only and isn’t financial, legal or tax advice. Funding approval, amounts and terms are set by funding partners and depend on underwriting.