Accounts receivable financing vs. invoice factoring

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Page written by Michael David. Last reviewed on October 9, 2024. Next review due October 1, 2025.

When businesses need quick access to cash, they often consider funding options that involve their accounts receivable. Two of the most common methods are invoice factoring and accounts receivable financing. While these terms are often used interchangeably, they represent distinct funding solutions with unique features and benefits.

Here at Swoop, we aim to provide you with the best funding options available, we also want to provide insight for you to make the best decisions for you and your business. In this guide, we’ll break down the differences between receivable financing and invoice factoring, helping you determine which option best fits your business needs.

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What is invoice factoring?

Invoice factoring is a financing solution where a business sells its outstanding invoices to a factoring company (or “factor”) at a discount. By doing so, the business immediately receives a percentage of the invoice’s value in cash, typically around 70-90%, and the factor takes responsibility for collecting the payment from the customer.

Factoring is especially useful for businesses that need a quick cash infusion but can’t wait for their customers to pay their invoices. It can be a lifeline for companies with extended payment terms or those experiencing cash flow challenges.

How does invoice factoring work?

Invoice factoring takes an outstanding invoice, and sells it over to a factoring company for a percent of its value up front. Then after the factoring company has recouped the funds from the invoiced customer they take their portion (fee) and the remainder goes back to the original issuing business.

Here’s a full rundown:

Invoice Creation: The business issues an invoice to its customer for products or services rendered.
Invoice Sale: The business sells the invoice to a factoring company, usually at a discount.
Immediate Cash: The factoring company provides an advance on the invoice, typically 70-90% of the total value.
Customer Payment: The factoring company collects payment directly from the customer when the invoice is due.
Remaining Balance: Once the factoring company receives payment, it releases the remaining percentage of the invoice to the business, minus fees.

This method transfers the responsibility of collecting the debt from the business to the factor, which can be beneficial for companies that want to avoid the administrative burden of following up on late payments. But be aware, that invoice factoring has its downsides. The fees are typically higher than traditional loans and can add up quickly, especially if your customers take longer to pay their invoices.

What is accounts receivable financing?

Accounts receivable (AR) financing, on the other hand, allows businesses to borrow against their receivables without selling them outright. Unlike factoring, AR financing doesn’t involve selling invoices, but instead, it leverages them as collateral for a loan. This option allows businesses to access cash without relinquishing control over their accounts receivable.

Again, this method can also result in interest fees and administrative costs, which may accumulate over time depending on the loan terms and the duration of outstanding invoices.

How does accounts receivable financing work?

In this scenario, a lender will provide a loan or line of credit based on the value of the company’s outstanding invoices. The business retains ownership of the receivables and continues to manage collections.

Here’s a simplified view of how accounts receivable financing functions:

Invoice as Collateral: The business applies for financing using its outstanding invoices as collateral.
Advance on Receivables: The lender evaluates the receivables and advances a portion of their value, often 80-90%.
Ongoing Collection: The business is still responsible for collecting payments from customers and managing its accounts receivable.
Repayment: Once the invoices are paid by the customers, the business repays the loan, plus interest or fees, to the lender.

This route allows businesses to maintain their customer relationships and collections process, while still benefiting from immediate access to cash.

Factor	Invoice factoring	AR financing
Fees	Typically higher; includes service fees and collection costs	Lower than factoring; includes interest and administrative fees
Terms	No set terms; based on invoices sold, factoring ends when the invoice is paid	Set loan or credit terms based on receivables
Speed of funding	Quick access, often within 24-48 hours	Slightly slower; generally within a few days to a week
Ownership of receivables	Invoices are sold to the factor; the business relinquishes control	Business retains ownership of receivables
Collections process	Factoring company takes over collections process	The business manages its own collection process
Impact on customer relationships	Customers interact with the factoring company, which may affect relationships	No change; business maintains direct customer relationships

What is the difference between receivables financing and invoice factoring?

AR financing is like using your invoices as collateral for a loan, with invoice factoring being more like selling your invoices to a third party. Though similar in many ways, accounts receivable financing and invoice factoring differ in key aspects:

Ownership of receivables:
- Factoring: The business sells its invoices to the factor, relinquishing control over collections.
- AR Financing: The business retains ownership of its receivables and is responsible for collecting payments.
Customer interaction:
- Factoring: The factor typically contacts the business’s customers to collect payment.
- AR Financing: The business continues to manage its customer relationships and payment collections.
Cost structure:
- Factoring: Fees for factoring can be higher, as they cover both the advance on invoices and the service of collections.
- AR Financing: The cost structure is generally lower, with businesses paying interest on the loan rather than fees for selling invoices.

How do I decide which option is best for my business?

If you’re debating which option is best, it will primarily depend on your immediate cash flow needs and how involved you want to be in the collections process. Consider these questions: How quickly do you need funds? How much capital do you require? Are managing collections becoming a burden for your business?

How urgently is cash/capital needed?

Depending on how quickly you need funds, one option may suit you better than the other. While neither is a “same-day loan,” both can provide relatively fast access to capital, depending on your lender’s processing speed.

Best for immediate cash needs: Invoice Factoring – If your business needs quick cash and cannot wait for customer payments, factoring offers faster access to working capital.
Best for less urgent cash flow: AR Financing – While still relatively quick, accounts receivable financing may take slightly longer since it involves securing a loan against receivables instead of selling them outright.

How much capital is needed?

Getting access to funds quickly may be your top priority, but that speed often comes at a cost.

Best for large, immediate capital: Invoice Factoring – Factoring typically provides quick access to 70-90% of your invoice value upfront. This is ideal if you need a substantial amount of working capital right away for expenses like payroll or inventory.
Best for flexible, ongoing funding: AR Financing – AR financing offers more flexibility, providing loan amounts based on your receivables. This option is better suited if you need moderate, sustained funding over time while retaining ownership of your invoices.

How much of an issue are collections?

Chasing down past-due payments can be time-consuming, but if you offer extended payment terms, this can become a reality. Here’s how the two options address collections:

Best for outsourcing collections: Invoice Factoring – Factoring companies handle the collections process, saving you time and resources. However, this also means your customers will interact with the factoring company, which could affect your relationships with them.
Best for maintaining control: AR Financing – With AR financing, you retain full control over collections, preserving your direct relationships with customers. This can be especially important if you prioritize managing customer interactions or have a reliable payment history.

How Swoop can help

There is never a ‘one-size-fits-all’ approach to financing. Having multiple options at your disposal can be both beneficial and overwhelming. At Swoop, we understand the complexity of these decisions and aim to provide both guidance and clarity as you navigate your funding options.

Whether you need immediate capital, prefer to keep control of your receivables, or want to simplify your collections process, Swoop is here to help. Our platform allows you to easily check available business loans, compare the benefits of factoring versus AR financing, and access expert advice tailored to your unique needs.

Ready to explore your options? Register today to discover what’s available for your business.

Written by

Michael David

Michael David is a financial writer and former investment advisor. Writing for Capital Group, Dimensional Fund Advisors, Franklin Templeton Investments, HSBC, Invesco, PIMCO, Vanguard, global insurance companies, major banks and others, he has educated professionals, business owners and consumers about strategies for investing, insurance, banking and corporate finance for more than 20 years.

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