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Transforming A/R with Automation and Built-In Credit Financing


Posted by Michael Noble - 12 January, 2022

The Difference Between Factoring And Accounts Receivable Financing

When you're turned down for a traditional business loan and other common financing options, such as online lending, investors, and crowdfunding, it isn't time to give up. There are still options available to you. Accounts receivable financing and factoring are fairly easy to qualify for compared to traditional financing.

In this article, you'll learn what each is and why you might choose one over the other.

What Is Accounts Receivable Financing?

Accounts receivable financing is similar to a secured loan. While a secured loan requires tangible assets such as equipment, property or even the business owner's personal assets, accounts receivable financing uses the company's accounts receivable as collateral. This type of financing usually has strict qualifications. Meaning, the company's accounts receivable must meet the financing company's qualification standards. 70% to 95% is often advanced to the company upon approval. The financing company will also apply a fee of between 1% to 2%. The loan amount will usually be net of financing fees.

The company seeking financing doesn't have to sell its accounts receivable. Accounts receivable is simply being used as collateral. The company will still need to continue collecting payment from customers. It's accounts receivable and credit processes don't need to change.

Accounts receivable financing isn't exactly a loan. Instead, it is a line of credit. A company can draw on their line based on the value of accounts receivable being financed. While the line is outstanding, interest is usually applied. Once the outstanding line is paid back, the company can make a new draw. A loan application is not required for each draw.

How Does Factoring Work?

Invoice factoring is a process where a company called the "factor" buys your accounts receivable for 70% to 95% of its value. The factor will then take over collecting payment from customers. It will also charge a fee for its services that can range from 1.5% to above 3% of the accounts receivable value. The fee will vary by risks the factor has identified and other aspects of the factor's process. The amount advanced to the company will be net of factoring fees.

Accounts receivable financing and factoringSource

Using factoring means your customers will be working with a different company. This can be a jolt to your normal process and  your customers. Customers might think you are going out of business. The best way to handle this scenario is to prepare far in advance. Make sure your customers are aware of what is about to happen and why. As well, build processes into your business to make it easy to offload accounts receivables.

You don't have to sell your entire accounts receivable. You can choose which outstanding invoices to factor. This is typical.

Check here to see a visual guide to the invoice factoring workflow.

Main Differences Between Accounts Receivable Financing And Factoring

Now that you've seen what accounts receivable financing and factoring are, you are probably wondering what the main differences. Knowing the differences can help you decide with option might best for your business.

Both options advanced funds based on a percentage of the value of accounts receivable. Both options also charge similar financing fees. Funds are advanced net of fees.

With factoring, a company is buying your accounts receivable and taking over the collection process. This is a high impact scenario in that it impacts both your company and your customers. A/R financing is seamless to your customers and your A/R and credit processes.

Because accounts receivable financing is a line of credit that you can draw on, it makes the entire process easy. With factoring, you will probably have to set up a new factor contract for each cash advance that is requested.

Who Should Use Accounts Receivable Financing or Factoring?

Consider this scenario: You have a net 60 for outstanding invoices. You start getting new customers, which requires ordering materials from suppliers. However, the company doesn't have enough cash or credit to cover the cost of materials. Traditional financing options aren't available. At this point, the company can't fulfill its orders.

That's where accounts receivable financing or factoring comes in. Depending on which option the company goes with, it sells off enough of its unpaid invoices (factoring options) to finance materials and fulfill its new customer orders. This replenishes working capital and allows the company to continue growing. At some point, the company should be able to finance orders using its own funds. This usually happens by reducing net terms enough that the company can cover new orders.

Which Options Is Right For Your Business?

There are a few components that go into this decision. But it could be as simple as you qualify for one and not the other. 

Assuming both options are available, choosing to go with factoring means a more disruptive process since you lose control of payment collections. However, some companies may see that as an advantage. They're able to offload part of process onto another company that is fairly good at that specific process.

Another consideration is cost vs. value. Which option values your accounts receivable or invoices highest and charges the lowest fees? If factoring is the winner in this case, there is still the disruption of payment collections. But if you are ok with allowing someone else to take over that part of your process, factoring is a clear winner.

The above assumptions provide you with a few methods for evaluating which financing option to choose. Doing the necessary comparative research will allow you to fully understand how any decision will impact your business.

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Topics: Finance, Management, accounts Receivable, Factoring


Apruve enables large enterprises to automate long-tail credit and A/R so you can stop spending 80% of your time and resources on 20% of your revenue. We partner with each of our customers to solve their unique credit, payment, and accounts receivable challenges and build the right credit solutions for your markets, customers, and goals. 

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