Factoring is one of the most popular forms of invoice finance. It can help businesses to improve their cash flow, access working capital, and generally operate more efficiently. Despite these benefits, however, many business owners are wary of invoice factoring because they don’t know how much it could cost.
Here we breakdown how the cost of factoring receivables, and how you can find the best finance company to meet your invoice factoring requirements.
Invoice factoring is a flexible short-term funding solution that helps businesses to access money by leveraging their outstanding invoices. Receivables are sold to a factoring company, who can pay up to 95% of their value meaning that the business does not have to wait through their payment term to receive money owed in respect of work completed or goods sold. The factoring company will also take responsibility for collecting the unpaid invoice funds, although that duty may be passed back to the business if the customer does not pay.
Whilst some finance companies offer a flat fee structure, most opt for a variable system. The main factors determining the total cost of invoice factoring are the invoice discounting charge (between 0.5% and 5% of the invoice total) and the length of the factoring period. It might be, for example, that the factoring company takes their discounting charge of, say, 5% for the first 30 days, with 0.5% charged at 10-day intervals thereafter until the invoice is paid.
Invoice factoring rates vary between providers, but in general terms the discount charge usually ranges from between 1% - 3% over the Bank of England base rate of interest. It’s calculated for each day following the cash advance, meaning that it costs more if it takes longer for the invoice to be paid.
Service charges vary, but typically fall between 0.75% and 2.5% of the business’s annual turnover. The rate is determined by the finance company, with reference to the business’s creditworthiness, size, and customer base, among other things.
There’s not usually one flat rate for invoice factoring, and costs are instead determined based on a number of factors such as invoice volume, industry area and the stability of the business. The costs can, however, be broken down into various charges and fees, namely:
A discount charge, which is applied to the cash advance provided in exchange for your business’s unpaid invoices. This charge is calculated with reference to the UK base interest rate, in addition to the commission charged by the factoring company; and
A service charge, which represents the cost of running your invoice factoring facility. This comprises charges for credit management and administration amongst other things, with charge rates varying between finance providers.
There are also some additional costs that certain providers charge, but these are not exactly standard. Your invoice factoring contract will state if these are included, so look out for:
Transaction fees, which cover the costs of processing payments between you, your customers, and the finance company;
Set up fees charged for establishing the invoice factoring arrangement.
Minimum usage fees, which kick in if you do not submit a stated minimum number of invoices for factoring each month;
Overdue fees, charged for extending your contract or increasing the level of funding you require;
Annual fees, covering the cost of keeping your factoring facility open for a further 12-month period; and
Bad debt protection, an additional service that businesses can elect to pay to protect their finances. This is a form of non-recourse factoring, meaning that by paying a little extra, businesses can pass responsibility for non-payment of the invoice over to the finance provider. Depending on the creditworthiness of your business, you could protect up to 95% of your invoice balance, meaning that you won’t lose out if your clients don’t pay.
Whether invoice factoring is a good idea for your business will depend on its structure, the way you invoice clients, and various other factors including whether you could benefit from improved cash flow. Even though you will forgo some of the value of each invoice that you factor as part of the factoring fee, your business could still benefit from more regular access to working capital.
Other benefits include the flexibility of invoice factoring, which could help you to maintain steady cash flow over a longer period of time. Unlike other forms of financing, your business will get quick access to the cash it’s actually owed and there are various operational advantages that arise from passing over responsibility for collecting invoice payments to a finance company.
Invoice factoring could be of real benefit to your business, helping to improve cash flow and offering an easier approach to financing than many other options. Unfortunately, there is no simple answer to the question of how much invoice factoring costs, as this will depend on the size of your business, its credit history, and various other factors.
Even despite this, it is possible to find the cheapest invoice factoring providers online by using our helpful comparison tool. Simply input the details for your business into our invoice finance calculator and compare the invoice finance packages from some of the UK’s leading providers. With rates from as little of 0.1% of invoice value, you could improve your business outlook without paying the earth.