Invoice Financing: What It Is and How It Works
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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.
How Much Do You Need?
What is invoice financing?
Invoice financing is a type of business financing that functions as a cash advance on outstanding customer invoices. It allows small-business owners to use invoices as a form of collateral to secure a loan or line of credit. This type of business loan is also sometimes known as accounts receivable financing or invoice discounting.
Invoice financing can help business owners account for gaps in cash flow in order to purchase inventory, pay employees and, ultimately, grow faster.
Because your invoices serve as collateral, invoice financing can be 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.
Invoice financing example
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
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.
» MORE: The best fast business loans
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 month — 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.
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 is a Canadian fintech company that specializes in invoice financing. It funds B2B businesses with at least $100,000 in accounts, and its fees are dependent on your terms, starting at 2.75% for net 30, and going up for longer net terms.
Porter Capital is an Alabama-based lending company that specializes in different kinds of loan products for small businesses across the U.S., including accounts receivable financing. Rates vary depending on other qualifying factors, but businesses can apply online and expect a decision within 24 hours.
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.
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.
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. 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.