Is your business struggling with cash flow problems? If so then invoicing financing can be a great way to raise cash quickly. Invoice financing is a type of business loan that’s secured against unpaid invoices due from your customers. It can sometimes take only 24-48 hours to arrange and it’s especially useful if your customers take a long time to pay.
In this guide we explain how invoice financing works and what are the pros and cons. We look at the different types of invoice financing and answer common questions like “how much does invoice financing cost?”, “how long does it take to arrange” and “what happens if invoices aren’t paid?” Let’s dive in and find out more.
Table of Contents
- What is invoice finance?
- Invoice finance lenders
What is invoice financing?
Invoicing financing is a form of short term secured business loan. The lender agrees to pay your business a cash advance based on the value of your unpaid customer invoices (invoice book). It’s often possible to raise 75- 90% of the value of your invoice book.
There are lots of different types of invoicing financing. Some lenders will chase up invoices on your behalf and others let you retain control over cash collection. It’s a good idea to think about the current needs and future goals of your business to work out which type of invoice financing to go for. Are you looking for help with debt collection or do you want to keep control of chasing customers for payment yourself?
How does invoice financing work?
Here is an overview of how invoice financing works:
- Your business sets up an invoice financing agreement with a lender.
- The lender pays an agreed percentage of the total value of your customer invoices upfront, typically 75%-90%. Most agreements apply to all your outstanding customer invoices but some only include certain agreed invoices. (see selective invoice financing below)
- Cash collection continues on outstanding invoices. It can be carried out by your business or the lending company, depending on the terms of your agreement.
- The invoice is paid by the customer. Payment is received by your business or by the lender, depending on your agreement. If the lender is responsible for cash collection then money received from your customers is usually paid into a trust account, held on your business’s behalf. Then the lender pays the final remaining balance due under the agreement and any service fee from the lender is deducted from this final payment. If your business is responsible for credit control then you will collect money from customers for outstanding invoices. Once invoices are settled, your business then repays the lender for their cash advance, plus any fees.
How to apply for invoice financing
Invoicing financing is available through banks and specialist lending companies. The application process works in a similar way to other types of business loans.
When you apply, lenders will perform credit checks on you or your business. You will need to speak to an advisor at the lending company who will ask for the following information:
- Financial accounts showing your turnover and profit.
- Details of your length of time in business.
- Information about your outstanding invoices so they can assess the risk invoices won’t be paid.
- The average length of time that customers take to pay your business.
If your business is eligible for invoice financing then you will be offered a contract by the lending company.
What will your invoice financing agreement include?
The terms of your agreement are arranged up front with the lending company. Your agreement will set out the following:
- How much money you will receive up front. It will usually be an agreed percentage of the total value of your invoice book.
- Who is responsible for chasing up the invoices and collecting money from customers.
- What final balance is due from the lending company and when it will be paid.
- The amount of fees due to the lending company for their services.
- What happens if customers don’t pay their invoices. Often unpaid invoices will be deducted from the final balance paid by the lender.
What are the pros & cons of invoice financing?
- Quick. Invoicing financing can take only 24 hours to arrange. This is great if you are having cash flow problems.
- Good for slow paying customers. You will be able to release cash into the business rather than waiting a long time for payment. If you need to pay your wages or buy stock then it can be a problem if customers wait 30-120 days to pay their invoices.
- Convenient. Transferring invoice collection to another company frees up time for you to concentrate on your core business. Not all types of invoice financing include this option so you will need to check the terms of your agreement.
- Flexible. Arrangements are available where you can agree a contract for 6 months but decide after that whether to continue on a rolling basis.
- Less money in the long run. You will not receive the total value of your invoice book as the lender will only pay a percentage of the invoice value.
- Relationship. It may be harder to build up a relationship with the customer if invoice collection is outsourced.
- Reputation. If the lender chases invoices it may affect your reputation as a business because customers will be aware that cash is being collected by another company.
- Still liable. If you have a recourse factoring agreement (see below) then your business will remain liable for any unpaid invoices.
- Short term. It is not usually a long term solution as agreements typically only last between 12-24 months.
- Credit checks. The lender will need to perform credit checks on your business. If there is an issue then this may affect your credit rating and ability to access lending in the future.
- Limited availability. Invoicing financing is not available to all businesses. Some lenders will not only lend to businesses who have other business customers, not consumers. Other lenders will not consider new businesses or smaller businesses with turnover under £50,000.
What is invoice discounting?
Invoice discounting means a business is still responsible for chasing up and collecting cash for outstanding invoices. The lending company will pay up to 90% of the invoice value up front as a loan. Once the invoices are paid, your business will repay the lender for their loan, adding on any invoice financing fees. Because the responsibility of collecting falls to your business, it is slightly cheaper than the alternative, invoice factoring.
What is invoice factoring?
With invoice factoring, the invoice finance lender will chase up and collect money for invoices. It is often slightly more expensive than invoice discounting because there's an additional fee for cash collection. Your business will receive up to 90% of the invoice value in up front cash. The lending company will then take control of collecting the outstanding invoices. The remaining balance, minus any fees, will be due to your business once invoices are paid by customers.
If your business is struggling with credit control, then this type of invoice financing is very convenient. The downside is that your customers might not like speaking to another company about their invoices.
What is the difference between recourse and non-recourse factoring?
Recourse factoring means that your business is financially liable for any unpaid invoices. For example, if a £5,000 invoice is not paid by a customer, then £5,000 will be deducted from the final balance paid by the lender to your business.
Non-recourse factoring is less commonly available and more expensive than recourse factoring. It is where the lender takes full financial responsibility for outstanding invoices. With this type of agreement you will not take a financial hit for any unpaid invoices.
What is selective invoice finance?
Selective invoice finance is suitable if you only want to raise finance on certain invoices. Any invoices that are not part of the selective finance agreement will remain your responsibility and be collected as normal. This type of finance is more flexible than invoice discounting or invoice factoring because you will not be tied into a contract.
It can be harder to apply for selective invoice finance as some lenders will only offer it if your business has an internal credit control function. It also tends to be slightly more expensive than invoice discounting or invoice financing because the lending company is taking on a higher level of risk.
Where can you get invoice financing?
Invoice financing is available from a variety of banks, brokers and specialist lenders. Lenders tend to specialise in different types of invoicing financing and different sizes of business. It’s worth shopping around because terms and conditions vary significantly between lenders. Here are some invoice financing lenders:
Frequently asked questions
What are some alternatives to invoice financing?
If you need to improve your cashflow but don’t want to apply for invoice financing then there are many different types of business loan available. Other options include a working capital loan, a cash advance, asset financing and a start-up loan.
Are there other ways to improve your cashflow?
If you want to improve your cashflow and be paid more quickly by customers without using invoice financing then here are some tips:
- Invoice customers quickly and regularly rather than waiting until the end of the month.
- Ask for online payment from customers. This often encourages them to pay more quickly.
- Set up automated reminders for customers by text or email so that customers are contacted about payment more quickly and regularly.
- Employ a specialist credit controller who is responsible for chasing up customer payment.
How much cash will my business receive upfront?
How much cash your business receives will depend on a variety of factors. Lenders will typically advance between 75%-90% of your total outstanding customer invoices. Your agreed percentage will depend on a variety of factors including the following:
- What type of invoice financing agreement is arranged.
- The risk that outstanding invoices can’t be collected.
- Your business and personal credit rating.
- Turnover of the business and how long the business has been operating.
- How much you want to borrow - charges for large amounts are generally lower than for small amounts.
How much does invoice financing cost?
Lenders typically charge invoice financing fees of between 0.45%-5% of your total outstanding invoices. The level of fees depends on the size and risk profile of a business and the type of invoice financing.
What type of businesses can get invoice financing?
Any type of business can apply for invoice financing. It may be harder or more expensive to arrange if a business is new, small or mainly has consumers as customers.
What happens if invoices aren’t paid?
What happens when invoices aren’t paid depends on the invoice financing agreement. If you have a recourse agreement then your business will remain liable for any unpaid invoices. The invoice total is deducted from the final balance paid by the lender. Non-recourse agreements are less common and hold the lender financially responsible for unpaid invoices.