Factoring is a powerful resource for small businesses that rely on invoice accounting to handle customer payments, because they let you access money you are owed early, so you can meet your financial commitments. You can use the capital for everything from paying suppliers and vendors to getting a new project off the ground, making it easier to pace your flow of operations without worrying about your incoming cash. It’s a little different from conventional loans, though, so it’s not surprising that there are a few common mistakes that new borrowers make. These can lead to penalty fees or create approval problems, so make sure you avoid them.
The first mistake that most new applicants make is a simple one, and that’s submitting purchase orders instead of invoices. Purchase order financing is available from some lenders as an additional subtype of factoring, but unless you are explicitly working with a purchase order financer, only invoices for delivered merchandise or completed service work will be acceptable for the factor. That’s because the asset in question in this form of financing is the money you are owed, and you are not owed money until the work is complete.
Another common mistake is failing to redirect payments. Factors typically take over collections under modern invoice lending agreements, and they require the payments go to them so they can track progress and deduct the appropriate amounts to cover fees and repay the advance. If you do not redirect payments, it could result in penalty fees or even an invalidation of your lending agreement. At the very least, it will create a paperwork problem that takes extra resources to correct.
Finally, people who are new to factoring often fail to fully read the fine print. There are a variety of options for fee structures and penalty arrangements and understanding exactly how your agreement is set up is very important if you’re going to predict how much money will be coming in on the back end, after payment is collected.
Different factors focus on different lending windows, too. If you know you need a long repayment window because your customer is habitually paying at 60 or 90 days even when they agree to 30, it’s possible to get a flat fee agreement that avoids penalizing you, but it will cost more than an agreement that favors early payment if they are on time. If you want to be sure you understand how much this cash advance costs you and when you will see your money after payment is collected, you need to understand every aspect of your deal. That way, you can get the most out of your invoice financing.