What is collection factoring??
Collection factoring is a financial solution where businesses sell their accounts receivable to a third party, known as a factor, who takes the responsibility of collecting payments from customers.
Unlike invoice factoring, which provides an upfront cash advance, collection factoring focuses primarily on streamlining the collection process to ensure businesses receive timely payment for their outstanding invoices.
Businesses that opt for collection factoring aren’t necessarily in financial trouble. In fact, many successful companies use this tool as a way to make their operation efficient, reduce administrative tasks and ensure a steady cash flow. After all, who enjoys chasing overdue invoices?
According to a report by Invoice Funding UK, the factoring market size was estimated at £3 billion in 2024.
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How does collection factoring work?
Collection factoring is a relatively simple process. Let’s break it down step by step:
Process overview
The core idea behind the collection factoring process is to sell your unpaid invoices to a third-party factor, who then takes on the responsibility of collecting payments directly from your customers.
So what happens? You continue your business as usual, while the factor handles chasing payments from clients. This means no stressing over late invoices or spending time calling clients to remind them of overdue payments.
No upfront advance
Unlike invoice factoring, where you receive cash on your unpaid invoices (about 70-90% of the invoice value), collection factoring doesn’t offer immediate cash. The real benefit is the administrative relief it provides.
Interaction with customers
Now, you might wonder: Won’t handing over collections to a factor hurt my relationships with customers? The answer depends on the factor you work with. A good factoring company operates professionally, so your clients may not even realise the change in collections management.
Read our article on silent factoring if you’re highly concerned about your customer relationships being weakened with a third-party collection.
When should a business consider collection factoring?
As a business owner, there are times when managing cash flow needs feels like juggling too many balls at once, and sometimes you need a helping hand. So, when exactly should you consider collection factoring?
1. High administrative burden
Running a small to mid-sized business often means wearing many hats, and collections can be time-consuming and labour-intensive. If your team is spending too much time managing unpaid invoices, it might be worth outsourcing this task to a factoring company. This allows your staff to focus on high-value tasks like sales and customer service.
2. Long payments
This is one major reason why businesses opt for factoring. If your business operates in an industry where long payment terms are standard, collection factoring can be a great option. Sectors like construction or professional services often deal with extended payment timelines, which can make it hard to maintain a steady cash flow.
Rather than struggling to keep things afloat while waiting for invoices to clear, collection factoring ensures payments are received in a more timely fashion.
3. Slow-paying customers
If you’ve got customers who are slow to pay, it can leave you in a tough spot, waiting on money that could be used for growth. Collection factoring steps in to relieve the stress of chasing payments.
According to a report by Invoice Funding UK, payment cycles of businesses have been around 45 days in 2022.
Pros and cons of collection factoring
When it comes to collection factoring, like any other invoice finance tool, there are both benefits and drawbacks to consider.
Pros
- Improved cash flow: Tired of waiting for your customers to pay? Collection factoring provides a steady cash flow by ensuring timely collections, freeing you from the financial waiting game.
- Decreased administrative burden: Let’s face it – chasing late payments can be a headache. By outsourcing your invoice collections, you save valuable time and resources.
- Preserved customer relationships: Handing over collections to a professional factor means they handle the awkward follow-ups. A good factor knows how to maintain professionalism and tact, so you don’t risk straining customer relationships by repeatedly chasing them for payments.
- No need for a high credit score: Unlike traditional loans, collection factoring focuses more on the creditworthiness of your customers than your own credit history. Even if your business doesn’t have a high credit score, you can still access factoring services.
Cons
- No upfront cash: Collection factoring doesn’t offer immediate cash advances. If your primary need is fast liquidity, this might not be the best solution. Instead, it’s better suited for businesses that want help managing collections.
- Fees and costs: Collection factoring isn’t free. Factors charge service fees, which may eat into your profit margins. If you’re working with skim margins, the cost of factoring might outweigh the benefits.
| Pros | Cons |
|---|---|
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Ensures timely collections, leading to more predictable cash flow. |
Doesn’t offer immediate liquidity like invoice factoring. |
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Outsourcing collections saves time and internal resources.
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Service fees may reduce profit margins, especially for small businesses. |
|
Professional collection prevents strain on customer relationships. |
|
|
Focuses on customer creditworthiness, not the business's credit. |
|
How to choose a collection factoring provider?
Choosing the right collection factoring provider can be a big help for your business. But how do you pick the right one when there are so many options?
- Reputation and experience: First things first – reputation matters. Is the provider established and experienced in your industry? A provider with a strong track record in handling businesses similar to yours can offer peace of mind. Reviews, referrals and testimonials can give you a clear picture of their reliability.
- Transparent fees and terms: The process comes with fees, and some providers can sneak in hidden charges. When comparing providers, be sure to get a full breakdown of their fees – service charges, collection fees and any hidden costs lurking in the contract.
- Quality of customer service: You’re not just looking for a vendor; you’re looking for a partner. That means the factoring provider should be responsive, communicative and transparent. Are they easy to reach when you have questions? Find that out.
- Funding speed: How quickly can the provider get you the cash once payments start coming in? Even though collection factoring doesn’t typically involve upfront advances, you’ll still want to ensure they remit payments promptly after invoices are settled.
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FAQs
Collection factoring outsources the collection of overdue invoices with no upfront cash advance, whereas invoice factoring offers an immediate advance depending on the invoice value. It is suitable for organisations that need assistance with collections but do not require immediate cash.
Collection factoring works well for businesses with long payment terms, seasonal cash flow gaps, or customers who take their time settling invoices. It’s especially handy for industries like manufacturing, logistics, or professional services, where chasing down unpaid invoices can eat up time that could be better spent elsewhere.
Unlike traditional loans, collection factoring focusses more on your client’s ability to pay rather than your business’s credit score. So, even if your company has less-than-ideal credit, you could still qualify—as long as your clients have a strong history of paying their invoices on time.
