You’ve already delivered value and invoiced your customer, now it’s time to get paid. But when clients and customers drag their feet, your cash flow can slow to more of a cash trickle.
Is it time to look into invoice factoring? This unique funding method is fast, flexible, and available to most companies.
But is it a good idea, or is invoice factoring the “payday loan” of the business world?
It depends on the invoice factoring rates extended to your company.
This guide will go over average invoice factoring rates, with a focus on tech companies (as rates vary across industries). When you’re finished reading this, you’ll have a clear idea of the rate range you should expect, so you can decide with confidence whether you’re getting a good deal or not.
What Are Factoring Rates?
Factoring rates reflect the bulk of the cost of seeking immediate funding via invoice factoring. There are some nuanced differences for factoring as a small business but, for the most part, these rates hold true.
On average, factoring rates tend to run 1-5% of the invoice face amount. This is a flat rate fee as a percentage of the invoice amount; it’s not an interest rate or APR (annual percentage rate).
Invoice factoring essentially involves selling your outstanding invoices to a factoring company (called “the factor”). The factor pays you an upfront cash advance, minus a discount fee, and then collects the full invoice amount when the recipient pays the invoice off. Unlike most forms of financing, invoice factoring isn’t really a loan — it’s simply selling invoices at a discount to a third party.
For instance, a factoring company might charge a 3% factoring rate. On a $10,000 invoice, that means you’d receive an upfront payment of $9,700, and the factoring company would later collect the full $10,000.
Sounds like a fair deal — but keep in mind that invoice factoring rates don’t necessarily reflect the full cost of using an invoice factoring service.
Specifically, the “invoice factoring rate” typically refers to the initial discount rate. But there may be other factoring fees involved as well (which I discuss in-depth below). There may be additional service fees, application fees, sign-up fees, wire transfer fees, and more, that can add to your total factoring cost.
That said, for most factoring companies, the invoice factoring rates do reflect the bulk of the total cost. But as usual, it’s important to familiarize yourself with the fine print to avoid sticker shock.
Reasons For Invoice Factoring
There are many valid reasons a company might consider invoice factoring. Some key benefits include:
Rapid Access to Cash
Invoice factoring is quick. If you’re already established with a factoring company, you could get cash in as little as 24 hours. Even for new relationships, it can take just a few business days. Traditional SaaS loans, on the other hand, which can take weeks to months to finalize.
Funding Based on Accounts Receivable (Not Credit)
With invoice factoring, your firm’s business credit rating is not typically a primary factor in approval. This is helpful for newer firms with a thin credit profile, or firms with blemishes on their record. Factoring companies look primarily at sales volume, accounts receivable, and recurring invoicing records when determining eligibility.
Flexible and Nimble Cash Flow
Factoring can be utilized on an as-needed basis, whenever your firm is facing a shortfall in cash flow or simply needs more cash to deploy. It’s also more flexible than standard revenue-based financing, as invoice factoring can be deployed on a single invoice, throughout all receivables, or anywhere in between.
Factoring Rate Components
The total cost of invoice factoring generally consists of multiple components.
For the most part, these fees aren’t necessarily “paid” directly by your company. Instead, they’re subtracted from the disbursements sent to you from the factoring company. They still represent the total expense of factoring, but these fees don’t typically require direct out-of-pocket payments.
Factoring companies have varying fee structures, but these are the most common factoring rate components to be aware of:
The discount fee, also known as the factor rate, is the discount rate at which you sell your invoices to the factoring company - unfortunately, it doesn’t mean you’re getting a discount. It’s typically in the range of 1-5% of the invoice amount.
For example, if you factor a $100,000 invoice and are offered a discount rate of 3.5% for 100% of the invoice amount, that means the factoring company would send you $96,500 and pocket $3,500 once the invoice is paid.
Do keep in mind that not all invoices and firms qualify for 100% cash advances. A company may only be willing to extend 80-95% of the invoice amount as a cash advance, for example, with the remaining amount distributed after the invoice is paid.
Regardless of the cash advance percentage, the discount rate applies to the value of the entire invoice. For example, say you factor a $100,000 invoice at a discount rate of 3.5%, and the factor is willing to front an 80% cash advance. Here’s how the transaction would look:
|Initial cash advance (80% of invoice value, net of fee)||$77,200|
|Remaining advance (disbursed after invoice is paid)||$19,300|
|Total funds received||$96,500|
What’s described above represents a flat-fee factoring rate structure. But keep in mind that some factoring companies use a variable fee structure which increases costs depending on how long the invoice remains unpaid.
For instance, a factoring company may charge 2.5% for the first 30 days, then an additional 0.5% per 15-day period that the invoice remains unpaid. Companies that have a variable fee structure typically offer a lower initial cash advance than flat-fee companies.
The service fee is an administrative fee that invoice factoring companies charge. It can be anywhere from 0% to 2% of the invoice amount. Some providers roll this fee into the discount rate, while others charge it separately, so be sure to seek clarity before assuming it’s included.
A sign-up fee/initial fee/approval fee is a one-time charge that some invoice factoring companies may charge. Depending on the company, this can be required only one time, or one time per application or invoice factored. Fee rates vary significantly between providers, but are typically a flat dollar amount (i.e. $100), rather than a percentage of the invoiced amount.
Credit Check Fees
Credit check fees are exactly what they sound like: Factoring companies passing on the cost of running a business credit check. This fee, if charged, is usually moderate — somewhere in the $30 to $50 range is common.
Credit checks can be conducted on your business, and/or the businesses whose invoices you are factoring. So if you have 10 clients that you wish to factor invoices for, you may have to pay 10 credit check fees so that the lender can pull their business credit profiles.
Late Payment Fee
This is an additional fee if the client/customer pays the invoice late. Remember, you’re not actually borrowing money from the factoring company; they’re buying the rights to your invoice and then collecting the money from the original recipient. However, some factoring companies have it in the fine-print to charge additional fees (to you) if the invoice is paid late.
For flat-fee factoring rates, this may just be a one-time charge. For variable-fee rates, this might be a percentage change every 10 days, 15 days, or some other interval.
Contract Termination Fees
Some invoice factoring companies require an ongoing factoring agreement to use their services for a designated period of time. Contract lengths of 1-3 years are common.
If you back out of a contract early, or otherwise fail to meet its terms (such as monthly minimums or open balance minimums), you could face a contract termination fee.
These charges can be quite steep. It’s common for companies to calculate the fee based on your past usage of their factoring services. For instance, they may calculate the average monthly fee earned over the last 90 days, then multiply by the number of months remaining in the contract.
Depending on the contract and your firm’s volume, contract termination fees can potentially run in the tens of thousands of dollars. This fee, in particular, is one good reason to know the ins and outs of your contract and payment terms before signing up with a particular factor.
Depending on the factoring company, various other fees are possible, including:
- Wire transfer fees, which are usually $20 to $50 per wire sent.
- Same-day funding fees, which accelerate funding disbursement to the same business day as application. Often around 1%, if charged.
- Monthly access fees, which are ongoing monthly fees charged in order to retain access to factoring services (usually with expedited application processes to factor additional invoices). $50-$100 per month is common.
Variables That Influence Factoring Costs
The total cost of factoring invoices varies quite a bit. Variables including company size, industry, credit profile, and several others all come into play.
Here are the key variables that influence factoring costs:
Volume and Size of Transactions
The number of invoices factored, as well as the dollar amount, can influence factor rates. Generally speaking, many factoring companies offer volume-based discounts for firms factoring a higher volume of their invoices.
With that said, those volume discounts can also come with mandatory minimums; and you may be forced to pay penalties if you don’t meet those minimum balance requirements.
Separately, larger invoice amounts are often factored at more competitive rates, because the underwriting and administrative costs are lower on a per-dollar basis, when compared with smaller invoices.
Many industries use invoice factoring — most notably the trucking and transport industry, which heavily relies on invoice factoring for cash flow. It’s also commonly used at SaaS firms, startups, and wholesalers.
Factoring companies gauge the typical risk associated with a client’s industry when determining factoring rates. They also consider industry risk level when determining the cash advance percentage.
In a “safe” industry such as trucking, where most firms have robust credit profiles and consistent income, factoring rates are generally low and upfront cash advance rates are very high (up to 95-100%).
A higher risk client, like a startup serving software firms, may carry higher factoring rates and lower cash advance percentages.
Unlike most sources of funding, it’s your customers’ creditworthiness that matters most when it comes to invoice factoring rates. While factoring companies may pull your company’s credit profile, they care much more about the credit score of the companies you are invoicing.
Obviously, the more robust (and positive) your customers’ credit histories are, the lower rates you can expect.
Factoring firms will look past raw credit data to also consider the reputation of the customers on your accounts receivable ledger. This may be particularly true for larger invoices, which may go through more manual underwriting by the factoring company.
The details of the factoring arrangement, and most notably the cash advance percentage, can influence factoring rates.
Invoice factoring usually involves upfront payments of around 80-95%+ (less fees) of the invoice amount, followed by the remainder (less fees) once the invoice is paid.
The more the factoring company distributes upfront, the greater their risk — and therefore, the higher the fees.
Another key payment term variable is the length of the invoicing period. An invoice due in 60 days will almost certainly be more expensive to factor than one due in 30 days.
Relationship with Factoring Provider
Finally, your company’s relationship and history with the factoring provider can influence rates.
Once you have a track record of success with said company, they’ll be more likely to offer you better terms. Or, if you have other financial relationships with the provider, they may be willing to factor at more favorable rates.
What’s A Good Fee?
Factoring rate pricing take into account many variables, as discussed above. But what’s a good baseline invoice factoring rate?
For a reputable company with consistent, recurring revenue from a reputable customer base, a good invoice factoring rate may be somewhere in the ballpark of 0.5% to 2%.
Average invoice factoring rates tend to fall in the 1% to 5% range, but can be even higher in some cases. Rates of less than 0.5%, and really even less than 1%, are rare in this interest rate environment; as you might expect, when the rate of capital goes up, factoring rates also increase.
Advertised factoring rates typically include only the discount rate, so there may be other costs that contribute to the total expense of invoice factoring.
As always, be sure to drill into the details to know what you’re getting into.
Consider All Your Options
Invoice factoring can be a great deal, or it can be prohibitively expensive. It all depends on the quality, reputation, and volume of your clientele.
If you decide to use invoice factoring, be sure to shop around and compare rates and keep in mind that there are other funding options that can be a better fit for some firms. Revenue based financing companies, for instance, offer another non-dilutive funding solution, but provide a larger upfront infusion of cash, rather than a trickle of invoice advances.
There are many competitive financing options at your disposal. And fortunately, you’re in the perfect place to learn all about them. The CFO Club offers zero-cost insights into all things corporate finance, with a focus on financial leadership in the SaaS industry.
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