Accounts Receivable Factoring

A sort of commercial borrowing that assists businesses with cash flow problems

Manu Lakshmanan

Reviewed by

Manu Lakshmanan

Expertise: Management Consulting | Strategy & Operations


September 22, 2022

Accounts receivable factoring is a sort of commercial borrowing that assists businesses with cash flow problems. It can also be mentioned as A/R factoring or invoice factoring.

Accounts Receivable Factoring

It is asset-based financing in which the company sells its right to collect payment from receivables to a third party at a discount to acquire money immediately from the driver. It is also called invoice factoring or debtor financing.

It enables businesses to finance their accounts receivable, providing instant money. Small and developing businesses that do not have big financial reserves frequently employ A/R factoring.

Accounts receivable finance allows company owners to advance on such bills and utilize the cash for critical business requirements instead of waiting weeks or months for customers to pay their invoices.

It's especially well-suited for companies with lengthy net terms but continuing operational costs or fresh expenses that assist in accelerating expansion.


Factoring assists small and developing firms that are unable to obtain traditional finance. The approval procedure is mostly based on the credit quality of your invoices rather than your company's financial condition. As a result, small businesses with a steady client base can frequently qualify.

Factoring is only accessible as a financing method for businesses that sell on credit terms. For example, a borrower sells a product and generates an invoice for payment at a future date. This anticipated future payment is shown on the vendor's financial statements as an account receivable.

Factoring receivables is a method of releasing cash flow that unpaid bills have held up. Typically, the company will collect payments on behalf of the corporation.

How does it work?

Receivables factoring deals are often structured as a sale of your invoices instead of a loan, and the business sells bills to a factoring firm.

In exchange, the factoring business will pay you immediately after the purchase. This procedure can be performed as many times as necessary.


The factor funds the corporation after the entity has sold the items on credit to a consumer. In turn, the factor collects payments on account of receivables from the clients on the due dates specified in the sale transaction.

This allows the company to get the payment immediately instead of waiting until the due date. In addition, the company can utilize the money for commercial purposes now that it has it. 

As a result of the component, the restricted cash flow owing to credit consumers is freed. The benefit of factoring is that the manufacturer handles the default risk instead of the enterprise.

You submit an invoice to your client after you have delivered a product or service to them. The factoring business pays you immediately, with the invoice as security. The transaction is completed once the client pays the invoice, which normally takes between 30 and 90 days.

Office Supplies

Factoring can help your business develop quickly and service more customers. However, this strategy has restrictions and drawbacks like any other financing option. Consider the following benefits and drawbacks of factoring receivables.

The key here is that you receive the majority of the money owing to you relatively immediately, ensuring that you can handle the cost of operating your business while still having the cash you need to develop.

Account receivable factoring vs. Traditional operating line of credit

Accounts receivable factoring is a sort of commercial borrowing that assists businesses with cash flow problems.   


Receivables factoring deals are often structured as a sale of your invoices instead of a loan. For example, your business sells bills to a factoring firm.

In exchange, the factoring business will pay you immediately after the purchase. This procedure can be performed as many times as necessary.

A/R factoring and traditional operating lines of credit are both types of post-receivable financing, implying that an invoice has been created.

Accounts receivable finance allows company owners to advance on such bills and utilize the cash for critical business requirements instead of waiting weeks or months for customers to pay their invoices.

A traditional operating line of credit is a flexible loan from a financial institution that consists of a fixed amount of money you can borrow when you need it and return either instantly or over time.


Lines of credit are less risky income streams than credit card loans. Still, they affect a bank's earning asset management considerably since outstanding amounts cannot be regulated once the line of credit is granted.

Lines of credit can be beneficial in cases where there will be recurring financial outlays; however, the amount is unknown, and/or the suppliers do not take credit cards, as well as instances requiring big cash deposits.

Types of accounts receivable factoring

There are three accounts receivable factoring: recourse vs. non-recourse factoring, notification vs. non-notification, and regular vs. spot. 

The business owner sells an invoice to a factoring company, which pays the business owner a significant portion of the invoice as an advance. 

The factoring business contacts the consumer to request payment. After receiving it, the factoring company pays the rest of the invoice amount, minus costs, to the business.

1. Recourse vs. non-recourse factoring:

A corporation that factors with recourse collaborates with a Factor that lends against accounts receivables as collateral to advance cash.


Since the owners must retain liquidity to acquire back any non-performing accounts receivable accepted as collateral by the factor, recourse factoring typically demands the personal guarantee of management or the owners.

A non-recourse factor enters into an invoice purchase arrangement with a firm without requesting the company to buy unpaid or past due accounts receivable. 

The factor takes the credit risk and liability of non-payment on a factored invoice under a non-recourse agreement.

2. Notification vs. non-notification factoring:

Clients are advised that their accounts have been sold to factor in this sort of factoring. Buyers often provide factor with delivery receipts, account assignments, and copies of invoices, confirming to the supplier that factor has acquired their accounts. 

Due to the obvious undesirable openness that this sort of factoring provides in the marketplace, notification factoring might jeopardize a seller's connections with customers.

Non-notification factoring is a sort of invoice factoring arrangement between a company and its factor that minimizes interaction between the factor and the client.

A business may seek a non-notification factoring arrangement for several reasons, but the outcomes for the business, factor, and customer are frequently the same as with standard factoring transactions.

3. Regular vs. spot:

In most traditional invoice factoring arrangements, the prospect frequently uses the facility. Depending on the client's demands, they may factor bills weekly, monthly, or daily.

The transaction is known as spot factoring when a factoring business buys a single invoice as a one-time purchase. When the invoice is paid, both the transaction and the financing connection come to an end. 

Spot factoring is typically used to finance a single, big order. Although spot factoring provides consumers with greater flexibility, it is also more expensive than traditional factoring.

Types of businesses that employ account receivable factoring

While small firms most commonly utilize accounts receivable factoring, it may be used by any organization. 


Many major organizations deal with invoice factoring companies because factoring can give them the money they want quickly, in some cases, as little as 24 hours. 

When invoice factoring businesses acquire receivables from an industry's accounts receivable, the business can obtain cash immediately rather than wait 30-90 days for consumers to pay. 

This consistent operating money flow enables firms to recruit additional employees, advance offices, or acquire critical equipment.

Factoring is used by large corporations to help with cash flow for a variety of reasons, including but not limited to: speeding up invoicing, managing daily operations, and gaining access to funding for new investment in the business.

Not only can factoring assist entrepreneurs in meeting financial responsibilities and growing, but it is also far more likely to succeed than a loan or business line of credit.

Any firm that bills other companies for products or services after they've been provided can convert their accounts receivable into quick cash by selling their outstanding invoices to an invoice factoring provider at a reduced rate.

Factoring enables you to sell open invoices to a factoring provider for same-day settlement. The factoring business subsequently collects your clients' payments.

The businesses that employ A/R factoring are advertisers, wholesalers, trucking and freight companies, distributors, and telecom. 

Costs related to account receivable factoring

Prices are established by factoring businesses based on the value of the accounts receivable. 


Factoring businesses can charge flat costs regardless of how long it takes to collect payment on an invoice. Others impose varying fees: the longer it takes your consumers to pay their bills, the further you'll spend.

For accounts receivable finance, you should expect to pay a factoring charge of between 1% and 5%. However, a variety of factors might all have an impact on the actual rate. 

These criteria include the number of your bills, the quality of your client base, the volatility of the sector in which you work, and the contract's particular provisions.

Another issue is whether you want to engage in recourse or non-recourse business factoring. If you use recourse factoring, you agree to pay an extra fee if your bills are not paid on time.


Non-recourse factoring, however, exempts you from liability for unpaid bills. Therefore, the cost of non-recourse factoring is higher. It also has higher standards than recourse factoring since the factor accepts higher risks.

The invoicing mechanism has an impact on the factoring fee as well. The majority of factoring finance is based on what is known as non-progress billing. It comprises typical invoices and payments received for time and materials or commodities and services.

Progressive billing is used for continuing invoices paid in installments, such as a building project, and has a higher factoring cost. Certain factoring providers may charge a one-time copayment to create your account.

Benefits of account receivable factoring

While accounts receivable factoring is sometimes categorized as a credit solution, it is not a loan. Accounts receivable factoring does not necessitate security, does not affect corporate credit ratings and does not result in any debt being recorded on the financial statements.


Every business's success is dependent on maintaining a steady cash flow. However, cash flow can trickle when income is caught up in outstanding receivables, affecting the capacity to meet overhead expenses, make payroll, and even accept new clients. 

Accounts receivable factoring reduces delays by converting invoices into cash and releasing money within 24 hours.

Since factoring is not a loan, firms may maintain their credit scores while avoiding debt and continuous interest charges. In addition, because of the increased cash flow, revenue will be received more quickly and proportionally to sales. 

This gives firms a significant edge since they may not only pay costs but also create capital reserves for expansion due to the expedited cash flow of factoring.

Magnifying Glass

When companies take out loans, they take on a lot of risks. Companies must put up security, incur debt, and make monthly payments on the sum owing despite whether sales are strong or low. Factoring, on the other hand, is easier, more transparent, and puts businesses in control.

Organizations can pick which receivables or sections of receivables are factored in, and they can investigate their clientele's creditworthiness before electing to factor in an invoice. Regarding funding, businesses want greater control and agency, which factoring provides.


Accounting Foundations Course

Everything You Need To Build Your Accounting Skills

To Help You Thrive in the Most Flexible Job in the World.

Learn More

Researched and authored by Ajay Kumar Sahoo | Linkedin

Free Resources

To continue learning and advancing your career, check out these additional helpful WSO resources: