Invoice Financing: What It Is and How It Works

Invoice financing can be a good funding option for business-to-business, or B2B, companies with cash tied up in unpaid invoices.
Nov 19, 2021

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Invoice financing lets businesses borrow capital from their unpaid customer invoices. This type of financing can make sense if you need to manage cash flow issues, pay short-term expenses or can’t qualify for a less expensive small-business loan.

Here’s what you need to know about invoice financing, how it works and where to get it for your business.

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What is invoice financing?

Invoice financing is a cash advance that small-business owners can receive on their outstanding customer invoices. This type of business loan is also sometimes known as accounts receivable financing or invoice discounting.

With invoice financing, your invoices serve as collateral. This can make invoice financing easier to qualify for than other small-business loans, although borrowing costs can be higher. You still own the unpaid invoices and remain responsible for collecting payment on them.

Invoice financing can be structured as a loan or as a line of credit, sometimes called an accounts receivable line of credit.

How does invoice financing work?

With invoice financing, lenders advance a percentage of your unpaid invoice amount — potentially as much as 90%. When your customer pays the invoice, you receive the remaining percentage, minus the company’s fees.

Invoice financing companies can charge fees in different ways, but usually they charge a flat percentage (1% to 5%) of the invoice value.

Here’s an example of how invoice financing works:

  • Funding is received. Let’s say you’re going to finance a $100,000 invoice with 30-day terms. The financing company gives you an advance of 90% ($90,000).

  • Fees are charged. The company charges a 2% fee for each week it takes your customer to pay the invoice. The customer pays in two weeks, so you owe the lender a $4,000 fee — 2% of the total invoice amount of $100,000 ($2,000) for each week.

  • You collect payment and repay the lender. After the customer pays the invoice, you’ll keep $6,000 and send $94,000 (the original advance amount, plus fees) to the lender. You’ve paid $4,000 in fees, which calculates to an approximate APR of 53%.

Pros and cons of invoice financing

Pros

  • Ideal for business-to-business companies and seasonal operations. Invoice financing works best for businesses that primarily deal with other businesses since outstanding invoices are necessary to obtain funding. Invoice financing can help these types of businesses alleviate cash flow issues due to unpaid invoices.

  • Invoices serve as collateral. Because invoice financing is backed by your invoices, it can be easier to qualify for compared to other types of business loans. Lenders typically consider your customers’ payment history when evaluating applications, meaning you may still be able to qualify if you’re a startup or have bad credit.

  • Fast to fund. Invoice financing companies usually offer simple applications with minimal documentation and can sometimes provide funding in as little as 24 hours. The quick financing process can be especially advantageous when you're facing cash flow issues or an emergency.

Cons

  • Can be expensive. The fees on invoice financing may seem competitive at first look — typically ranging from 1% to 5% of the total invoice value per week — but when you calculate these fees into an APR, rates could be as high as 79%. That’s much more than SBA loans, for instance, in which APRs generally range from 5.50% to 8%.

  • Reliance on customer payments. The amount you pay in fees is based on how long it takes your customer to pay the invoice, meaning it’s difficult to estimate the total cost of invoice financing upfront. If your customer is late or misses a payment, an invoice financing company may charge late or additional fees. You face bigger risks if your customer doesn’t make payments altogether.

  • Limited to B2B businesses. Direct-to-consumer businesses will be much more unlikely to access this type of financing, as they typically require immediate payments for services or products.

Invoice financing vs. invoice factoring

Invoice financing is sometimes confused with its close counterpart invoice factoring.

With invoice factoring, you sell your invoices to a factoring company at a discount. The factoring company pays you a portion of the invoice’s value and then takes over its collection. After the company receives payment from your customer, it sends you the rest of your money, minus the agreed-upon fees.

Factoring can be a better solution if you don’t mind giving up control of invoices and you trust the factoring company to be respectful and professional when dealing with your customers.

In contrast, with invoice financing you maintain control over the invoices and still deal directly with your customers. You get all or a portion of the money upfront from the lender. When your customer pays the invoice, you get the remaining balance — minus the fees you’ve agreed to pay the lender.

Invoice financing is usually a better option for businesses that want to maintain control over invoices and deal with their customers directly.

How to get invoice financing

Invoice financing is usually offered by online lenders and fintech companies. Compared to other types of business loans, banks are less likely to provide invoice financing.

Some examples of invoice financing lenders include FundThrough and Porter Capital. Lenders like altLINE and Triumph Business Capital, on the other hand, offer invoice factoring.

To apply for invoice financing, you may need to provide:

  • Basic information about your business.

  • Business bank statements.

  • Business financial statements, such as an accounts receivable aging report.

  • Invoices you’d like to finance.

  • Personal and business credit scores.

Find and compare small-business loans

If invoice financing isn't right for you, check out NerdWallet’s list of the best small-business loans for business owners.

Our recommendations are based on the market scope and track record of lenders, the needs of business owners, and an analysis of rates and other factors, so you can make the right financing decision.