It is not uncommon to hear business owners talking about factoring financing for short-term cash flow problems. While the term factoring financing is used, it is a misnomer as factoring and financing are two different options.
To help understand the differences in factoring and financing, a closer look at what each term means is helpful. This can avoid confusion and provide clarification in how the different options can impact a business in the short and long term.
Financing
When businesses have cash flow problems that are short term, usually because of the gap between invoicing and customer payment, there are several financing options available. Depending on the size of the business, business credit score and years in business, some or all of these options may be available to cover the short-term deficits for 30 to 90 days:
- Credit cards – this is a high-interest option in replacing inventory, paying vendors or even in obtaining cash advances or merchant advances to make payroll and pay bills.
- Lines of credit – less interest than credit cards but harder to obtain for many businesses. Often there are fees to maintain the line of credit even if it is not used.
- Loans – most banks do not make short-term loans to business. The banks that do tend to charge high interest and require minimum loan amounts that may be more than needed.
Factoring
Unlike financing, factoring is an advance on money already owed to your business. This is in the form of accounts receivable that are sold by the business to the factor. The factor then provides the business with up to 80% of the invoice value, collecting from the customer. From the residual 20%, the factor subtracts the agreed upon fees and forwards the residual amount to the business.
The process of factoring financing is very different as well. Factoring is a simple online application while financing is a complicated and complex system that can take weeks just for approval.
