Invoice financing, also known as receivables financing, or invoice discounting, is a short-term loan of typically no more than 90 days which is borrowed against outstanding invoices. This type of business lending can help improve cash flow, as well as providing an injection of working capital to help a business grow without having to commit to long-term loans.
How does invoice financing work?
Invoice financing offers a cash advance against receivables (invoices) that customers are due to pay within an agreed time period. Most terms request payment to be made between 30 and 90 days after the date the invoice is issued, which leaves businesses vulnerable to unexpected costs that may arise while waiting for the money to come in.
Traditional business lending models – which tie in borrowers for a long period – are expensive and slow to put in place. Invoice financing is a fast way of accessing cash which can be used to pay an unexpected bill, increase headcount, or invest money back into the business.
The typical process for invoice financing is:
- The business (borrower) applies for financing and provides proof of receivables due
- If approved, an agreed percentage of the full amount due is loaned by the invoice financing provider (creditor) – the percentage varies, but can be as high as 95%
- When the invoice is paid by the customer, the borrower pays the full amount to the invoice financing provider
- The business can then apply to borrow against further invoices owed to free up more cash
Accounts receivables factoring vs receivables financing
Both receivables factoring and receivables financing allow a business to borrow against outstanding invoices.
Unlike receivables financing, receivables factoring hands over control to a third-party factoring company as effectively a business will sell its outstanding invoices to them. The factoring company then manages the collection and processing of invoices, and often takes on the responsibility of credit control.
As the factoring company will be managing the relationship with the customers that owe money to the business, customers will be aware that invoice factoring is being used to finance the business short-term.
A way to finance an existing business without a loan
Banking Circle offers receivables financing to the merchants of financial tech companies, such as Payment Service Providers and Acquirers, via its Instant Settlement solution.
Many merchants have to wait up to 90 days for invoices to be paid for the money they have earned when selling via an online marketplace, so freeing up cash to reinvest in their business can be difficult.
To provide an instant cash flow boost, Banking Circle Instant Settlement is available to merchants via their Payment Service Provider (PSP) to offer an advance on money a merchant earns which is paid back only when an invoice is due.
As soon as a decision has been made on whether a merchant qualifies, data on receivables due is shared with its PSP in real-time. When a sale is made, merchants can get an advance on the receivables due, typically anywhere between 60% and 95% of the invoice amount, allowing them to unlock the value trapped in drawn-out online marketplace settlement cycles.
To pay back the money borrowed against the invoice, Banking Circle opens a segregated virtual IBAN account in the merchant’s own name. This ensures their privacy, and reduces the risk of chargeback issues often caused by unknown payment details appearing on customer invoices and bank statements – an issue that can occur when using a factoring company. Additionally, the merchant retains full control so they can choose which of their unpaid invoices they wish to borrow against, and fees are lower than those charged by factoring companies.
For the PSP, there is no exposure risk and the solution adds value to their proposition by providing its merchants with an ongoing relationship as a short-term lender.