What is invoice discounting?

posted by 4 years ago in Products

If you’d like to learn more about invoice discounting and whether it might be a useful funding stream for your business then read our guide…

What is invoice discounting?

It’s an alternative form of finance that permits you to borrow on raised invoices before they’ve been paid allowing you to free up working capital for your business and improve cash flow.

For a fee discount finance companies will lend you an agreed percentage of money against your unpaid invoices. As your clients pay their invoice the money goes to your financer. Unlike in the case of invoice factoring, you will still be responsible for collecting debts from your customers. Discounting is a more discreet form of invoice financing than factoring.

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How does invoice discounting work?

Invoice discounting represents a partnership between a business and a specific lender. You retain control of your sales ledger, raise invoices and collect debts as standard however, you pay a fee to a discounting lender to have funds released before they are actually paid by your client.

Once they do pay, the money (plus the fee) will go straight to the lender. This can be done without your customers even knowing that you’re using invoice financing.

Invoices Concept. Word on Folder Register of Card Index. Selective Focus.

Here’s a step by step guide to using invoice discounting:

  1. You raise an invoice with your customer
  2. You assign your unpaid invoices to a discounting lender who pay you an agreed percentage of the value of the invoice
  3. You retain control of your sales ledger, credit management and collections
  4. Your relationship with your customers remain the same as they are unaware that a discounting loan is being used
  5. The remaining invoice balance, less the discounter’s charges, is made available to you once the debt has been paid by your customer

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Who uses invoice discounting?

Any business that wants to free up cash from raised invoices quickly and discreetly.

Invoice discounting is increasingly being used as a strategic funding tool for acquisitions and management buy-ins and buy-outs as well as for refinancing. It is particularly appealing to established businesses who want confidentiality and who don’t want their customers or clients to know they are using invoice financing. It is also favored by firms who have the resources to handle the administration in-house and who don’t want to give up control of their sales ledger.

What paperwork do I need to produce for invoice discounting?

Invoice finance is solely for companies whose customers are other businesses.

The invoice finance provider will usually look at your invoice book to assess whether you have a broad range of customers as this spreads the risk (it may work against you if you are too reliant on a sole customer). Your eligibility will also rely on the good relationship you have with your customers and their ability and willingness to pay on time. You will need to provide proof of this.

You will also need to fill out a data protection form and proof of ID such as a driving license or passport.

Can I use invoice discounting if I have bad credit?

Yes! What’s more, not only can you use invoice financing if you have less than perfect credit or are too new to have established a solid credit rating, but you can also use it for bad credit rehabilitation.

Even if you have been turned down for bank loan or other traditional lending options, you can be accepted by an invoice discounting company. The main reason for that is that they assess your customer’s creditworthiness rather than your business or personal credit history.

A benefit of invoice discounting for bad credit is that you can rebuild your credit (or establish it if you are a new business) using the cash flow that is made available through borrowing on your invoices. You can even use the funds to pay off existing debts and improve your credit standing.

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What are the pros and cons of  invoice discounting?

As with any type of business loans there are pros and cons to using invoice discounting and you should always be sure you understand how it works.

Pros of invoice discounting

Once set up then funds can be with you within 24 hours

You could get up to 100% advance rate

It’s less time consuming than getting funds from the bank and the likelihood of being accepted is higher

It is confidential and your customers don’t have to know you’re using it

You retain control over your sales ledger

Free background and credit checks

Cons of invoice discounting

You’ll lose some of the profit that you make as you’ll be paying a fee

It may affect your ability to gain other funding

There is paperwork involved which could take up some of your time

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Is invoice discounting the right choice for my business?

Asking yourself a few simple questions will help you decide.

Do I want to access payments owed to me from raised invoices now?

Do I have the resources to retain control of my company sales ledger and chase payments?

Do I want to use invoice financing confidentially without my customers knowing?

If the answer to these questions is a resounding yes then you might want to learn more about invoice discounting. If not, then invoice factoring might be more your thing! We compare over 30 lenders to find the best invoice factoring and discounting deals for businesses every day. Why not give it a try?