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Invoice Factoring vs Invoice Discounting

Business Finance

Invoice Factoring vs Invoice Discounting

Updated: 5 September 2023

From the thousands of businesses we speak to, we hear often that long payment terms or late payment of invoices is a widespread issue that can cause havoc with cash flow. Research found that last year over half of SMEs experienced late payments, with extra costs and lost time needed to chase them.

To help out, many businesses turn to invoice factoring or discounting, which can unlock the value you have in unpaid invoices. In this article we look at them in more detail, how they can help, and if they might be right for you. 

What is invoice discounting?

Invoice discounting is when a business uses its invoices as collateral for a loan. The loan amount may not be exactly the same as the invoice, but allows you to get immediate access to the money owed.

How does invoice discounting work?

Invoice discounting operates similarly to traditional secured business loans. The lender evaluates the worth of the collateral, determines the loan amount and establishes the terms of the agreement. Once the business accepts the terms, they receive immediate cash and are required to make repayments according to the agreed-upon terms, irrespective of their invoice-collection schedule.

What is invoice factoring?

With Invoice factoring, the provider buys some or all of a business’s invoices outright. It therefore becomes the creditor to whom the money is owed and hence takes responsibility for its collection.

How does invoice factoring work?

Each factoring company will have its own process. However, typically they will pay a most of the value of the invoices straightaway, and a final amount after they have collected the invoices.

What is the difference between invoice discounting and factoring?

The key difference between invoice discounting and factoring is that, with invoice discounting, you remain responsible for collecting the invoices. Invoice factoring places that responsibility with the finance provider.

As a result, invoice factoring may impact any relationships you have with your clients, and reduce the flexibility you can offer them.

Furthermore, the nature of invoice factoring means that it’s much harder to stop people from finding out that you are using it, so if you prefer your credit activity to remain confidential, invoice discounting may be better. 

With either route, you may need to make changes to how you operate. There is likely to be some level of cost to doing this. This may include the direct financial cost and the staff cost of implementing the new processes.

How to choose between discounting and factoring?

Here are the five main points you should consider when choosing between invoice discounting and invoice factoring.

How important it is for you to retain control of the invoicing process

If it is important for you to maintain control of your sales ledger and the customers behind it, then invoice discounting may be a better fit. No matter how good an invoice factoring provider is, it is unlikely to have the same interest in maintaining and developing the customer relationship as you do. 

How happy are you with any new repayments?

Invoice discounting means taking out a loan, which means regular repayments that you need to manage. Invoice factoring on the other hand doesn’t come with repayments, so you have no ongoing commitments and can manage cash flow as you please. 

How important confidentiality is to you

Some businesses may want to keep their finances private, and not reveal to clients that they’re using credit to manage cash flow. If that’s you, then you might want to avoid invoice factoring. 

Cost/pricing structure

Invoice factoring tends to be more expensive because factors do more work (i.e. they take ownership of collecting the invoices). With that said, this extra cost may be offset by the savings on in-house credit control.

How can Funding Circle help

If you need short term cash flow to help with long payment terms or late payments, a FlexiPay – line of credit could help. You can apply for a credit limit of up to £250,000, which you can use to pay business costs and repay over 3 months. All payments are made in your name so it’s completely confidential – your supplier won’t know the difference,

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