Two of the most common sources of funding for supplying the cash flow needs of a small business are business lines of credit and invoice factoring. Either one might be suitable as a means of securing financing for your business, depending on your specific business circumstances, and your preferences. Here we’ll provide a brief overview of each so you can determine which might be right for you.
How a line of credit works
A line of credit functions very much like a credit card, in that each withdrawal you make from your outstanding balance reduces the balance by the amount of the transaction. When you make a payment on your line of credit, it increases the available balance, just like it would with your credit card. In order to obtain a line of credit from a lender, you generally have to demonstrate good collateral, good credit, and good cash flow.
How invoice factoring works
With invoice factoring, your company sells some or all of its invoices to a factoring company, which then pays you immediately, while it then assumes ownership of the invoices and waits to be paid for them. The amount paid to you by a factoring company will vary, but it will generally be between 75% and 85%.
Comparison of the two
Between the two financing solutions, lines of credit are generally less expensive, but on the other hand they are sometimes more difficult to obtain than invoice factoring would be, due to somewhat strict requirements for eligibility. Lines of credit also take much longer to set up, because they are based upon collateral, credit, and cash flow, all of which take time to investigate and confirm.
Invoice factoring by contrast, requires very little set up time, because the entire transaction is based simply on reviewable invoices. Between the two solutions, invoice factoring generally provides for faster credit limit increases, since all that would be required are more invoices to be factored, or invoices of higher value. Lines of credit don’t usually increase much over time, unless some new element of credit, cash flow, or collateral is introduced.