Small Business Factoring 101

When customers stop paying their bills to your business, their accounts become delinquent and your business becomes a temporary “loan agent.” Instead of trading your products and services for currency, your business now has to find a way to collect on overdue invoices.

Many businesses have an understandable desire to stay neutral in terms of bill-collecting, since hounding your customers for payment can sour the relationship faster than an overdue invoice. One of the better options that your business can turn to is factoring.

Invoice factoring allows small businesses the option to sell their unpaid invoices to factoring companies, who will cut you a check. Usually, the payment from the factoring service will be a percentage of the final invoice amount. The advanced amount is like a cash advance in exchange for future credit card revenue after the final debt is collected.

Business factoring allows your business to sell the rights of the collection to a factoring service provider for a factoring fee. The fee will usually be a small percentage of the entire invoice amount, and usually only stays between 3-5%.

Business factoring provides companies who do not have the resources and manpower to collect on invoice amounts, and also saves time and energy for small businesses. If your business is looking send some of your outstanding invoices to a factoring service, keep in mind that some customer accounts are better candidates than others.

Large invoice amounts are better for factoring because the factoring companies are essentially working on “repo-jobs,” or repurchasing accounts. Factoring services are third party agents who collect on loans that have been purchased from the original holder – your business. Larger accounts that cost more will also be more important to them in terms of a return on their investment.

Also take into account that factoring companies are not substitutes for customer payments – as a business, they are generally only in the market for profitable invoices that can yield high payoffs for everyone involved. Creditworthy customers that have good payment history are better candidates to them the same way they would be to your business. A large percentage of factoring service customers are small suppliers who are looking for payment from larger companies.

Small business factoring does not come without any limitations, however. Whenever your business turns over an account to a third party, you are required to notify customers that their payments should be directed to another billing company. If your company needs repeat business, then introducing a third party into the equation may delay orders or make them hesitant to purchase from you again.

Factoring is not the last chance for payment, since your business is protected by laws to receive payment for services and products that have been purchased. Factoring is, however, a legitimate way to increase your revenue, especially if you are a small business that needs a steady flow of income. Researching your own needs, as well as your own customer accounts, can go a long way in helping you to figure out if factoring can help increase your revenue.

David Liu is a writer and comedian based in San Diego, California. He writes extensively for Resource Nation, an online resource that provides expert advice on purchasing and outsourcing decisions for small business owners and entrepreneurs.

Resource Nation provides free tools, tips, and purchasing advice for business owners and entrepreneurs in over 100 business categories ranging from phone systems to credit card processing. Whether it's connecting businesses with local and national pre-screened vendors, or offering easy service comparisons on a VoIP service, Resource Nation empowers business decision makers by providing the information they need to make smart choices.