Accounts receivable financing allows you to put your outstanding invoices to work for you to increase your cash flow.
If you're not familiar with this type of financing, don't worry. We'll explain what it is, how the loans work, their advantages and disadvantages, requirements, application procedure, and where to apply.
What is Accounts Receivable Financing?
Accounts receivable financing is a type of business loan. The amount offered depends on the value of a company's outstanding invoices
Instead of waiting for your customers to pay, you can borrow a percentage of the money your customers owe you from a lender.
What Are the Three Primary Types of Receivables Finance?
Receivables finance will generally fall into one of four categories– asset-based lending, asset-backed securities, traditional factoring, and selective receivables finance.
- Asset-based lending is also called commercial lending or a business line of credit. You present your receivables as collateral to a lender who will choose the ones suitable for the loan.
- Traditional factoring gives you more say than asset-based lending, in which receivables become part of the funding transaction. However, with conventional factoring, you're selling your accounts receivables to the lender.
- Selective accounts receivables finance lets you choose which receivables to use for a loan. Selective receivables finance typically carries smaller fees than the other types of loans.
- Asset-Backed securities (ABS) are financial instruments created when a lender loans money to a borrower and uses the borrower's assets as collateral for the loan. The asset-backed security is then sold to investors, who provide the funds for the loan. ABS are typically used for loans that are considered too risky for traditional lending, such as subprime mortgages.
Accounts Receivable Financing vs. Factoring
Both factoring and commonplace accounts receivable financing rely on increasing a company's cash flow by converting the value of unpaid invoices into usable funds.
But factoring isn't actually a loan.
When you enter a factoring arrangement, you sell your invoices to the factoring company.
Because you've sold the invoices, your customer will make payment directly to the lender. The lender will then pay you the remaining percentage of the value of the invoices.
Here's another receivable financing example:
You have $20,000 in invoices you sell to the factoring company. The factorer pays you $16,000. Then the factorer pursues the customer to pay its outstanding invoice.
Eventually, the customer pays, and the factorer collects $20,000. It then pays you the remaining $4,000 it owes you for the full value of the invoices.
If it hasn't already, the factorer will also collect from you whatever fees it charges.
How Do Accounts Receivable Loans Work?
You can advance at least 90% of your receivables through accounts receivable financing. When receiving payments, you can deduct a certain percentage from each payment.
How is the fee calculated it? The time the customer takes to pay you their invoice is the base to calculate it. Typically, these fees range from around 1% to 5%.
- With accounts receivable financing; you can access the funds you need up to a certain amount.
- You can then use these funds for any business purpose, whether it is to cover expenses or to make investments.
- Once you have used the funds, you will be responsible for collecting payments from your customers and repaying the lender.
This process is typically automated, so you won't have to worry about keeping track of it yourself.
Accounts receivable loans are comparatively simple.
The straightforward steps are as follows:
- Decide which customer accounts and invoices you want to include in your loan
- Complete an application with a lender.
- Receive a percentage of the value of the outstanding invoices within days.
- Use the money to improve your business
- Receive the balance of the value of the invoices when customers pay their invoices
- Pay lender fees
Before choosing any loan arrangement, you should consider its pros and cons.
Receivable Financing Example
Suppose you have a client who needs 90 days to complete payment on a $30,000 invoice.
But you can't afford to wait 90 days. You need at least $20,000 in the next 30 days to take advantage of an opportunity to expand your business with equipment that's on sale for a limited time.
In that case, you could find a lender who will loan you a percentage of the $30,000.
What will you use as collateral? You'll use your unpaid invoice.
The lender might give you $24,000 upfront. That's 80% of the invoice's value. Then you'll receive the remaining $6,000 minus the lender's fees when the customer pays the invoice.
A business loan it's better than accounts receivable financing since you can receive the funds in your bank account within days.
In contrast, receiving the funds with accounts receivable financing could take weeks or even months.
Also, business loans are far less paperwork and red tape than applying for accounts receivable financing agreements.
Apply for a business loan today
Advantages of Accounts Receivable Financing Options
Businesses of all sizes use accounts receivable financing because you don't necessarily need a stellar credit rating to qualify.
A potential lender is more interested in the creditworthiness of the customers who owe you money.
Your Credit Isn't Most Important
Remember, the lender will make its money primarily from your customers who have yet to pay their invoices.
A lender wants to see that the companies in debt to you have an excellent track record of paying their bills within a reasonable amount of time.
The better their reputation, the better your chances of using invoice financing.
This is one of the reasons why you should consider only extending credit to your customers with a history of meeting their financial responsibilities.
The Application Process is Simple
Another advantage of accounts receivable financing is the ease of applying for a loan.
The typical application form is brief. It doesn't require an extensive history of your enterprise.
Your business can be relatively new and still qualify for a accounts receivable loan.
Some lenders will want your company to be at least one year old. But other institutions are willing to work with businesses that have existed for less time.
You won't have to wait weeks for your loan if approved. Typically, the money is available within a few days.
You may appreciate the quick turnaround when facing a deadline to make a purchase, meet payroll or business expenses, or buy new equipment.
The Downside of Accounts Receivable Financing
Any loan will have fees. However, the costs for accounts receivable financing can be steep.
The loans are short-term arrangements. That means that accounts receivable companies have a narrow window of opportunity to make a profit.
So, the fees are much higher for accounts receivable loans than you would see for something like a mortgage loan
that may last 30 years.
It's also important to consider the effect of using accounts receivable loans on your customer relationship. With some loan arrangements, you remain the one who collects money from the unpaid invoices.
However, in other loan setups, the bank or other lending agency will take over the responsibility of communicating with your customers.
So, you must determine if customers will become angry that they're no longer dealing with you about their unpaid bills but with a third party.
You also will have no control over how aggressive the lender's representatives will be when speaking with your customers. Will they harm your reputation in the business community?
Reasons Why You Should Consider Accounts Receivable Loans
If this is your first time getting a business loan, you'll be relieved to learn that funding accounts receivable is a normal part of doing business for many small, mid-sized, and even massive companies where you live.
Such loans help owners keep their employees paid when business is slow. And it makes it possible to expand when business is booming.
For example, a dressmaker may have more orders from boutiques than she can fill. So, she wants to purchase additional fabric and hire more assistants.
But if she waits until she can afford the material and personnel, it will be too late to meet the current demand.
That's when accounts receivables financing comes in. Within days, she could have the money to grow her business. Her outstanding invoices could finance the expansion, which will increase her revenue.
She could do this even if she were relatively new in her business. Lenders will consider her application if she has a year or less of experience.
The most significant concern of the lender is the quality of the unpaid invoices. If the customers are stable businesses with excellent credit ratings, lenders are more likely to want to offer loans on accounts receivable.
Requirements for Accounts Receivable Loans
You should have a business that routinely invoices other companies or government organizations.
You should be in business for at least six months. Some lenders may require one year.
Documents to verify your cash flow.
Lenders will differ regarding how much revenue they like to see.
In addition to invoices, be prepared to show bank statements and a voided business check.
Customers with terrific credit. Having government agencies as clients is a good strategy.
But any client with a stellar credit history will produce invoices you can use as loan collateral.
How to Apply For Loans On Accounts Receivable
Applying for an accounts receivables loan doesn't require dragging thick files of financial documents to the bank and sitting there for hours. You could do it during your lunch break.
There are only a few key steps to keep in mind.
Select Your Invoices
Decide which invoices you'll use as collateral.
As long as you're pursuing a typical accounts receivable loan, you will likely have some input regarding the invoices.
But remember that if you sell the invoices to a factoring company, the factor will pick and choose the invoices and customers.
Research potential lenders to ensure that you select the one best aligns with your business philosophy and customer service approach. If your lender interacts with your customers, you don't want a lender who will give your customers a poor opinion of your company.
Choose a Lender
Apply at the lender of your choice. You will probably have the option to apply online or in person.
You should have your money within a few days if you meet approval. You can typically expect 80% to 90% of the invoice value.
It's theoretically possible to receive up to 100%, but setting your expectations slightly lower is best.
The upfront payment could also be less than 80% if the invoices are from customers with less than glowing credit reports.
Pay Fees and Collect Payments
While the invoices are outstanding, the lender will charge you a weekly fee.
You can see why you only want to invoice reliable customers.
The faster they pay, the fewer fees you incur.
Either you or the lender will communicate with the customer to ensure payments are made on time.
When the final payment is made, you'll keep the loan balance while the lender receives its fees.
So, if you received 80% of the value of the invoices upfront, you'll get the remainder when the customer settles the invoice. You'll get 20% minus the lender's fees
Factors Affecting the Quality of Receivables
Several factors can affect the quality of receivables and, as a result, the amount of financing that a business can receive.
Here are some of the main factors to consider:
- The overall creditworthiness of the customer base: If a business has many uncreditworthy customers, it will be more difficult to finance receivables.
- The age of the receivables: Older receivables are generally harder to finance than newer ones.
- The mix of products and services sold: Some products and services are easier to finance than others. For example, businesses that sell durable goods usually have easier time financing receivables than businesses that sell services.
- The payment terms offered to customers: Longer payment terms generally mean more difficult financing.
- The credit policies of the business: More stringent credit policies, such as requiring a down payment, can make it harder to finance receivables.
- The overall financial condition of the business: Businesses that are in poor financial condition are typically less able to finance receivables.
- The industry in which the business operates: Some industries are more difficult to finance than others. For example, businesses in the retail industry often have a harder time financing receivables than businesses in the manufacturing industry.
- The geographic location of the business: Businesses in certain geographical areas, such as emerging markets, can be more difficult to finance than businesses in other areas.
- The type of receivables: Some types of receivables, such as international receivables, can be more difficult to finance than others.
- The size of the business: Small businesses typically have a more difficult time financing receivables than large businesses.
Best Accounts Receivable Financing Companies
There are a lot of companies out there for accounts receivable financing work. Here are some of the best options.
- First Commercial Credit
- TCI Business Capital
- Triumph Business Capital
Some things to look for when choosing an account receivable financing company include:
- The company's reputation and track record
- The amount of money the company is willing to lend you
- The interest rate the company charges
- The fees the company charges
Business loans, a financing alternative for business
If you're serious about expanding your business and counting on usable funds, consider applying for alternative financings, such as Camino Financial business loans
We offer three types of loans perfect for solopreneurs, microbusinesses, and small business owners to help them succeed.
You'll receive your answer in a short time in comparison to traditional lenders. With us, you can apply with your ITIN if you don't have an SSN; you must be in operation and registered for at least nine months and have a monthly revenue of $30,000.
Takeaways for Accounts Receivable Lending
Don't let a shortage of cash stop you from transforming your business. We can quickly set you up with the correct loan for your needs.
We're interested in working with you even if you've only been in business for nine months. Do you have an average of at least $2,500 in monthly sales? You should apply for a loan if you have steady revenue and credit-worthy customers.
We can fund your business loan
within 2 to 10 days. That means that if you receive approval, you could have the money you need to take your business to the next level. We want all small business owners to succeed.
Apply for a business loan today
Can you borrow against accounts receivable?
Yes, you can borrow against accounts receivable. Your receivables, such as invoices, serve as collateral. The better the credit rating of the customer who will pay the invoice, the stronger the collateral in the eyes of potential lenders.
What are loans on receivables?
An account receivable loan is a financial transaction centered on unpaid invoices.
Are loan receivables accounts receivable?
No, loan receivables are not accounts receivable. Loan receivables are the funds your business receives from a lender. On the other hand, accounts receivable refer to the funds that your customers owe you.
What are the four common forms of receivable financing?
Depending upon the industry, the company, and its accounting procedure, receivable financing techniques may be defined and grouped in numerous ways. But traditional accounting places receivable financing in one of four categories:
- Pledging: All invoices serve as collateral
- Assigning: Specific invoices rather than all invoices serve as collateral
- Factoring: A business sells invoices to a factoring company
- Discounting: A business sells invoices to a finance company at a reduced price
Is accounts receivable financing a loan?
Yes, accounts receivable financing is a type of loan. It's one of the easier loans for small or struggling businesses because it depends less than most loans on the borrower's credit history. Instead, the value of the accounts receivables is of greater interest.
*Terms and requirements subject to change without notice.