What is Invoice Discounting?
Invoice discounting (also known as invoice financing) allows a business to take a loan against its unpaid invoices from a financial institution (usually a bank or a discounting firm). The financial institution lends up to 95% of the total invoice value in advance for a fee. The remaining invoice payment is collected from customers by the business. Invoice discounting is also known as invoice financing.
What is Invoice Factoring?
Invoice factoring is a financial agreement in which a business sells its invoices (also called account receivables) to a factoring company at a discount. With invoice factoring, a business gets access to immediate cash flow instead of waiting for months for the invoices to get paid.
The factoring company pays a large portion of the invoices up-front (typically 70-90%) while the remainder is paid (minus fees) once the invoice amount is collected in full. The factoring company takes responsibility for collecting payments from the customers.
The key difference between invoice discounting and invoice factoring is who collects invoice payments from customers. In Invoice discounting, the business is responsible for collecting and handling payments whereas, in invoice factoring, the financial institution bears the responsibility.
Difference Between Recourse And Non-Recourse Factoring
| Aspect | Invoice Financing | Invoice Factoring |
|---|---|---|
|
Ownership of Debt |
Business retains ownership of invoices, uses them as collateral. |
Sells invoices outright to the factor. |
|
Control of Collections |
Business retains control over collecting payments |
Factoring company is obligated to collect remaining payments. |
|
Customer Relationship |
Direct interaction with customers for payments. |
Factoring company interacts with customers for payment collection. |
|
Interest/Fee Structure |
Interest-based financing with fees on the loan. |
Fee deducted from the invoice value by the factoring company. |
|
Risk Exposure |
Business takes on the risk if customers don’t pay. |
Factoring company assumes the risk for unpaid invoices. |
Choosing Between Invoice Financing and Invoice Factoring
- Invoice Financing: Ideal for businesses wanting to retain control over customer relationships and collection processes while using invoices for immediate cash flow.
- Invoice Factoring: Suitable for businesses seeking to outsource payment collection and credit risk while unlocking immediate cash flow.
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