The time it takes to get paid on an invoice is a pain point for business owners. It ties up your working capital and stifles growth while adding unnecessary stress. If you’re in the market for a solution that’ll help smooth your cash flow, then chances are you’ve heard about invoice factoring. It is a powerful tool, but the only question here is: do you need domestic factoring, or is your business ready for international factoring?
The decision isn’t simply between two types of factoring; it’s among complexity, cost, and strategic calculations. Making this choice can open a path to stabilise your operations or launch an offshore adventure with confidence. In this guide, we will explain in detail both domestic and international factors so you can decide on the future of your business.
What Is Invoice Factoring: A Brief Overview
Invoice factoring is a financial product in which you sell your unpaid invoices to a third party (known as a ‘factor’); in exchange, you receive an amount of the value of your unpaid invoices (usually 80-90%) within a few days.
The factor is then responsible for collecting payment from your customers. Once they have all the money, you receive the remainder of the invoice value, minus the service fee. This method effectively converts your sales ledger into a consistent cash flow, enhancing your business operations.
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What Is Domestic Factoring?
Domestic factoring is a simple arrangement for businesses that only sell to other businesses in their own country. For you, it means that you can use domestic factoring only if all your clients are in the UK.
How Does It Work?
The domestic factoring business is relatively straightforward:
- You supply your goods or services to your UK customers and invoice them as usual.
- You forward a copy of that invoice to your factoring company.
- The factor runs a few checks and then instantly pays you the majority of the invoice amount within a few working days.
- Later, it’s the factor’s credit control team that steps in and collects payments directly from your customers.
- Once your customer has fully paid the factoring company, they will pay you the remaining amount, deducting their service fee.
Key Characteristics:
- No Dual Jurisdiction:Every trade is subject to UK law and financial regulations.
- Single Currency:All transactions are made in British Pounds (GBP), thus avoiding forex-related issues.
- Unified Communication:You deal with one factor, and they manage customers in the same language and time zone.
- Straightforward Credit Checks:The factor only has to check the creditworthiness of UK-based customers, which is a straightforward process.
What Is International Factoring?
International factoring, also known as export factoring, is used when your customers are based abroad. It is built to help navigate the intricacies and dangers of trading across borders.
How Does It Work?
It is essential to note that international factoring operates on a collaborative system, which is known as the two-factor system:
- You (the seller or exporter of goods) agree to supply goods or services to an overseas customer (the buyer/importer).
- Your factor in the UK (the export factor) works with a local factor (import factor) in your buyer’s country.
- The import factor checks the creditworthiness of your international buyer according to the local laws and regulations.
- After the import factor gives a heads-up, your UK export factor pays you money in advance of verified invoices.
- After the import factor is paid, the funds are settled between both factors, and you get your balance.
Key Characteristics:
- Borderless Network: Depends on trusted factoring partners all around the world.
- Multi-Currency: Works with different currencies; exchange risk is involved.
- Complex Risk Management: Evaluates both the buyer’s creditworthiness and the political and economical conditions of the international buyer’s country, which increase risk.
- Localised Collections: The import factor is responsible for chasing payments from international buyers, which is more effective than the export factor’s chasing payments in a whole new country.
Pros And Cons Of Domestic Factoring
Here are the advantages and disadvantages of domestic factoring:
Advantages:
- Simple Process: The setup is quick and straightforward.
- Low Cost: Fees are low since there are no cross-border issues and international partner fees.
- Increased Cash Flow: Offers you a steady and predictable source of working capital.
- Outsourced Credit Control: Frees up your staff from chasing customers for payments so they can take care of other important business activities.
Disadvantages:
- Limited Reach: It is applicable only for B2B sales within the UK.
- Customer Interaction: To collect payments, the factor interacts with your customers, something that some businesses like to do themselves.
Pros And Cons Of International Factoring
Here are the benefits and disadvantages of international factoring:
Advantages:
- Unlocks Export Orders: You can extend credit terms to new export customers and win them over.
- Reduces Export Risk: Takes you out of the risk of non-payments by foreign customers and protects you from country-specific risks.
- Local Expertise: Navigates the language barriers, laws and culture when it comes to collecting payments.
- Multi-Currency Support: Facilitates dealing with foreign currencies and manages the forex risks.
Disadvantages:
- Higher Cost: The costs of domestic factoring are lower as compared to international factoring due to the involvement of international parties.
- Added Complexity: The initial configuration and the day-to-day operations complicate it.
- Slower Initial Setup: Slow to get started, as international credit checks and propositions are necessary before the initial setup.
A Side-By-Side Comparison Of Domestics And International Factoring
Here is a quick side-by-side comparison of domestic and international factoring:
| Feature | Domestic Factoring | International Factoring |
|---|---|---|
|
Customer Base |
UK-based customers only |
Overseas customers (Exporters) |
|
Currency |
British Pound (GBP) |
Multiple Currencies (EUR, USD, etc.) |
|
Legal Framework |
UK law |
International as well as buyer’s local laws |
|
Process Complexity |
Low |
High |
|
Risk Assessment |
UK customer creditworthiness |
Buyer and Country Credit Risk |
|
Cost |
Low Cost |
High Cost |
|
Ideal For |
Business with only UK clientele |
Businesses expanding into glocal markets |
Key Differences At A Glance
- Scope: Domestic transactions take place on domestic territory, while international transactions involve cross-border transactions.
- Parties/Agents: Domestic uses one factor, whereas international uses at least two (export and import factors).
- Risk Profile: International factoring has both geopolitical and currency risks that domestic does not.
- Primary Benefits: Domestic factoring streamlines cash flow, and international factoring mitigates the risk of global expansion.
Which Is Best For Your Business?
The better is not about one being better than the other; it’s about which process helps your business.
Choose Domestic Factoring If:
- All your business customers are based in the UK.
- You value simplicity, speed and cost efficiency in your cash flow options.
- You are looking to export your sales ledger and collection to save time and focus on administrative tasks.
Choose International Factoring If:
- You are selling products or services to customers abroad.
- You are worried about the risk of non-payments from foreign buyers.
- You want to extend open account terms in the global marketplace but require cash flow protection.
- Multi-currency payments and global collection laws are becoming a barrier to your business growth.
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When it comes to business finance, you may feel as if there’s an entirely new language and set of rules, but you don’t have to navigate all of this on your own. At ComparedBusiness UK, we will help you find the ideal invoice factoring provider for your business’s needs.
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FAQs
The main benefit is its simple and cost-effective process of improving your cash flow. If all your clients are UK-based, then domestic factoring offers a rapid cash injection without the complexity and increased costs that come with international transactions.
Absolutely, a mixed facility is common among many growing businesses. If you have a mixture of UK and international customers, a factoring company will be able to provide your business with a tailor-made solution that can tackle both.
Yes, it typically is. These higher rates incorporate the cost of importing the factor, international credit checks, correspondent banking costs; and foreign exchange management. However, exporters typically consider this cost as a minor expense to mitigate the significantly higher risks of non-payment.
