cashflow
Invoice Factoring
Selling outstanding invoices to a third party for immediate cash, at a discount.
Definition
Invoice factoring is a financing arrangement where you sell unpaid invoices to a factor (a finance company) for immediate cash - typically 80-90% of face value upfront, with the remainder (minus the factor's fee, ~1-5%) paid when the customer pays. It's expensive money compared to bank credit, but accessible when bank credit isn't. Useful when you have strong customers with long payment terms (net 60, net 90) and need to bridge the gap. Common in businesses with concentrated customer bases (government, large enterprise).
Recourse versus non-recourse factoring
Two factoring structures matter. Recourse factoring: you remain liable if the customer does not pay; the factor advances cash but can claw back if collection fails. Cheaper (1 to 3 percent fee per 30 days outstanding) but you keep credit risk. Non-recourse factoring: the factor assumes credit risk; if the customer defaults, you keep the advance. More expensive (3 to 5 percent fee per 30 days) and the factor underwrites your customers heavily. US factoring industry leans toward recourse for SMB factoring (typical for staffing, trucking, manufacturing); non-recourse is more common for large enterprise receivables. Read the contract carefully - 'non-recourse' definitions vary and often exclude disputed invoices, late payment beyond defined window, or customer financial distress. Understand exactly which risks transfer.
Cost economics versus alternatives
Factoring fees of 1 to 5 percent per 30 days translate to 12 to 60 percent annualized cost of capital - expensive money. Compare alternatives. US bank line of credit: prime plus 1 to 4 percent (currently 8 to 11 percent total) for businesses qualifying. SBA 7(a) line of credit: prime plus 2.25 to 4.75 percent. Asset-based lending (ABL): SOFR plus 2 to 5 percent (currently 7 to 10 percent) for businesses with 1M plus revenue. Customer financing (offering early-pay discount): 2/10 net 30 costs roughly 37 percent annualized but only when customers take it. Factoring is competitive only when (a) traditional credit is unavailable due to credit history or business stage, (b) customer concentration in large slow-paying buyers (government, Fortune 500) where factoring underwrites the buyer not you, or (c) extreme growth where receivables expand faster than other financing can scale.
When factoring is the right answer
Three legitimate use cases for US small business factoring. One, fast-growing staffing, trucking, or manufacturing businesses where weekly payroll demands exceed receivables timing; factoring smooths the gap and scales with revenue. Two, government contractors where invoices are net 30 to net 90 but payment in practice runs 60 to 120 days; factoring against government receivables is generally safe and well-priced. Three, transitional financing during turnarounds when bank credit is restricted but receivables quality is intact. Avoid factoring as long-term operating finance - the cost erodes margins permanently. Factoring is a tool for specific situations, not a general financing strategy.
Selecting a factor and contract terms to negotiate
Major US factoring companies: BlueVine (now part of Bluevine Banking), Fundbox, altLINE, eCapital, Triumph Business Capital, RTS Financial. Mid-market: TBS Factoring, JD Factors. Industry-specialized: TAFS (trucking), BCS Capital (staffing). Compare on advance rate (75 to 95 percent), discount fee (1 to 5 percent per 30 days), monthly minimums, contract length, recourse versus non-recourse, lockbox setup, and customer notification requirements (whether factor notifies your customers about factored invoices - many factors require notification, which customers may notice). Negotiate: shorter contract length (1 year not 3), no minimum monthly volume, ability to factor selectively (not all invoices), and clean exit terms. Bad factoring contracts trap businesses for years; review terms with an attorney before signing.
FAQ
Will my customers know I am factoring their invoices?
Usually yes. Most US factoring agreements require Notice of Assignment - the factor notifies your customers that the receivable has been assigned and payment should be remitted to the factor's lockbox. Customers see this and form opinions; some interpret factoring as financial distress, others see it as standard practice in industries where factoring is normal (trucking, staffing, manufacturing). Non-notification factoring exists but is rarer and more expensive. If customer perception matters and your industry does not normally factor, consider alternatives (lines of credit, ABL) instead.
What advance rate should I expect?
Typical US advance rates: 75 to 90 percent of invoice face value upfront, with the remaining 10 to 25 percent (reserve) released when the customer pays, minus the factor's fee. Strong industries (trucking, staffing, manufacturing with creditworthy customers): 85 to 95 percent advance. Weaker industries or first-time factoring relationships: 75 to 80 percent. Healthcare receivables (insurance reimbursement): often factored at 50 to 70 percent due to denial and adjustment risk. Negotiate advance rate alongside discount fee; sometimes accepting a slightly higher fee for higher advance is the better cash flow trade.
What is the difference between factoring and invoice financing?
Both use invoices as collateral but the structure differs. Factoring: you sell the invoice to a factor who collects from the customer. The factor owns the receivable. Invoice financing (also called invoice discounting): you borrow against your invoices, retain ownership and collection responsibility, and repay the loan when you collect. Invoice financing is more discreet (customers do not know), generally cheaper, but requires stronger underwriting (your business credit matters more than customer credit). US providers like BlueVine, Fundbox, and Lendio offer invoice financing; traditional factors offer factoring. The choice depends on whether you want to outsource collection and accept customer notification.
Is factoring tax-deductible?
Yes. US factoring fees and discount expenses are deductible as ordinary business expenses on Schedule C (sole proprietor), Form 1065 (partnership), Form 1120-S (S-Corp), or Form 1120 (C-Corp). Categorize as 'factoring expense' or 'financing cost' rather than miscellaneous. The advance received is not income (it is a financing event); only the eventual gross sale is income, and the factoring fee is expense. Accounting treatment is straightforward in QuickBooks or Xero with a dedicated factoring expense account. Your CPA reconciles factoring activity at year-end against monthly factor statements.
How do I get out of a factoring contract?
Read the contract carefully before signing - exit terms vary widely. Standard US factoring contracts have initial terms of 6 to 24 months with auto-renewal clauses. Early termination typically requires written notice 30 to 90 days before contract end and may include termination fees (1 to 5 percent of average monthly factored volume or 2 to 6 months of minimum monthly fees). To exit cleanly: provide written notice within the required window, factor your final batch of invoices, allow 60 to 90 days for the factor to collect outstanding factored invoices, then close the relationship. Switching factors is common but requires careful timing to avoid double-fees during transition.
In your business
- →Use factoring as bridge financing, not as a permanent funding source - the cost is too high
- →Compare the cost per dollar to alternatives (line of credit, supplier extension) before factoring
- →Watch out for recourse factoring - if the customer doesn't pay, you still owe the factor