Are you tired of waiting for clients to pay their invoices while your business’s cash flow gasps for air?
It’s like waiting for rain on a hot summer day.
Did you know that actually, these outstanding invoices can be funds that can grow your business, increase cash flow, or buy that much-needed equipment so you can expand faster?
This is where invoice financing comes into play.
What’s invoice financing?
If you’re unfamiliar with this type of financing and have a stack of unpaid invoices just sitting there, this will be the most important blog post you’ll read today.
And here’s why;
With invoice financing, you’re turning your outstanding invoices into instant funds.
Below, I’ll show you how this type of financing works and the benefits of choosing this type of funding.
With over two decades of experience in the world of finance as a banking expert and financial coach, I’ll be your guide in learning everything you need to know about invoice financing.
So, if you’re ready to turn those unpaid invoices into real cash, scroll down, and let’s get started!
What is invoice financing?
Invoice financing is an alternative type of business financing that serves as a cash advance on outstanding customer invoices.
With invoice financing, small business owners can have the power to use invoices as a form of collateral to guarantee a loan or line of credit.
Generally, lenders require company assets as collateral for added protection for business loans. If not, they can ask for a personal guarantee instead.
But in invoice financing, you’ll offer your company’s outstanding invoices as collateral for the loan.
However, business owners should remember that the full invoice amount will not be given.
The lender will determine the loan amount, and business owners are usually only allowed to borrow up to 80% of their accounts receivables.
Invoice Financing vs. Invoice Factoring
Oftentimes, invoice financing is confused with invoice factoring.
In invoice factoring, business owners sell their invoices to a factoring company at a discounted rate.
The factoring company will pay them a percentage of the invoice’s value and then take control of its collection.
The factoring company will send the borrower the rest of their money with the fees already deducted.
In short, the main difference between the two is that with invoice factoring, you give up control of your company’s invoices and trust the factoring company to respect your clients’ dealings.
On the other hand, invoice financing helps you keep control over your company’s invoices and still deal straight with your clients.
In invoice financing, you can get all or also a percentage of the money upfront.
When your client pays, you’ll get the remaining balance minus the agreed-upon fees with the lender.
How does invoice financing work?
Lenders in invoice financing advance a portion of your unpaid invoice amount, which could be as much as 80% to 90%.
Once your customer pays the invoice, you must repay the lender with the total loan amount plus interest and fees.
Borrowing fees may vary depending on the invoice company, but they usually demand a percentage of the invoice value.
Invoice financing example
If you want a much closer look at how invoice financing works, here’s a quick explanation:
- You apply for invoice financing with $100,000 in unpaid invoices.
- Once approved, the financing company advances you 90%, which would be $90,000.
- Your customer pays you in two weeks, and you’re preparing to pay the lender.
- The financing company charges a 2% fee for each week, which is $2,000. Meaning you owe the lender a $4,000 fee.
- That means you’ll have to pay the invoice financing company a total amount of $94,000.
Pros and Cons of Invoice Financing
Pros
- Don’t rely on Credit: Unlike traditional business loans offered by banks and credit unions, invoice financing doesn’t necessarily rely on your personal or business credit to determine whether to approve your application or not. Instead, they take a look at your client’s payment history.
- Invoices serve as collateral: In invoice financing, you won’t have to offer other business assets since the invoices will act as collateral for you to secure the financing.
- Fast Funding: Invoice financing offers quick and easy access to cash instead of waiting for your clients to pay the invoices. Some financing companies can provide the funds in just one day.
Cons
- Can be costly: Invoice financing will not be cheap. It includes processing fees, weekly interest, or rates, which can result in higher APRs.
- Complicated fees: Invoice financing companies may charge a one-time fee, or the fee can increase each week the customer doesn’t pay. Navigating this fee structure compared to other loan APRs can be confusing.
- Will only cover a certain percentage of the unpaid amount: Usually, financing companies will only pay 80% to 90% of your total unpaid invoice.
- Limited to B2B businesses: Not all types of businesses are suitable for this type of financing. For example, direct-to-consumer businesses generally require instant payments for services or products.
Alternatives to invoice financing
If you qualify, you may want to look at other business loans because of potentially high invoice financing fees and the need for creditworthy clients.
Crowdfunding
On crowdfunding platforms like Kickstarter or Wefunder, you can post about your product or services, and people can donate their money to help fund your startup.
However, most platforms require you to complete your fundraising goal to access the money.
You’ll choose the goal amount and can even reward donors by giving them early access and prizes.
Merchant Cash Advance
Merchant Cash Advances (MCA) allow your business to receive revenues in advance based on past revenues.
MCAs are typically available to businesses with strong cash flow.
This financing’s main focus is your business’s future sale when determining whether to approve or deny your loan application, rather than focusing on your personal or business credit.
Small Business Grants
The government, a company, or an individual (philanthropist) often funds business grants.
A business grant is basically free money, meaning you won’t have to repay any lender.
However, eligibility requirements can be hard, making it harder for business owners to qualify.
Microloans
Also known as microfinancing, microloans are small loans given to business owners or entrepreneurs who lack collateral.
Microloans can have specific spending restrictions, but they typically cover the operational cost and working capital for your much-needed equipment and supplies.
Business Credit Cards
Like personal credit cards, business credit cards allow you to borrow up to an agreed-upon credit limit.
Business credit cards also offer useful startup benefits, like cashback on supplies.
However, your credit score and future revenue will determine your eligibility for this financing.
Also, lenders for this type of financing consider your company’s cash flow.
Invoice Financing: Bottom line
Think of it as your business’s secret weapon to smooth out those bumpy cash flow roads.
You can get quick cash by leveraging outstanding invoices without waiting for customers to pay up.
Sure, it comes with costs and complexities, but it offers a lifeline when you’re in a tight spot.
Remember, though, it’s not a one-size-fits-all solution.
Explore alternatives like crowdfunding, merchant cash advances, or small business grants to find the best fit for your unique needs. The goal is to keep your business thriving and your stress levels low.
Invoice financing is about turning your business’s promises into immediate cash.
So, next time you’re stuck waiting on payments, consider this powerful tool to keep your business humming along smoothly. Cheers to a more predictable and prosperous cash flow!