Find out about invoice factoring costs and discover how much your business could save.
Invoice factoring can prove to be an excellent solution for small businesses in need of a rapid injection of cash – but what are the costs of invoice factoring? Factoring costs are dependent on a number of variables – we will explore these in detail throughout this article.
Cost of factoring
The first hurdle for those considering invoice factoring is to understand invoice factoring rates. You need to understand that factoring fees are rarely a flat rate – rather they are comprised of several different elements.
Knowing the facts about invoice factoring costs will enable you to negotiate well, and get the best invoice factoring rates for your small business.
The two key elements you need to consider with factoring costs are:
- The discount rate – factor rate
- Length of factoring period
These are the two main determiners of final factoring costs. There may also be extra factoring costs incurred, but these are the primary ones.
Discount Rate – Factor Rate
The discount rate is often also called the factor rate. This is much like the concept of borrowing from a bank that you are likely familiar with. It is the cost the factoring company charge you, usually on a weekly or monthly basis, for releasing the cash to you.
These factoring charges are worked out on a percentage basis of the invoice value, typically ranging between 0.5 – 5%. Generally speaking, the more you ‘hand over’ in terms of value (quantity and size of invoices), the lower the factor rate will be. You get better returns on your factoring fees if you factor higher value invoices.
- Low-end factor rate – 0.5%
- High-end factor rate – 5%
Length of factoring period
In a nutshell, the length of the factoring period is the amount of time it takes your customer to pay their invoice. Factoring fees reflect risk and patience for the factoring company.
As the discount rates are paid as percentages, usually weekly or monthly, the longer the time your customer takes to pay, the higher the factoring charges. Therefore, if your invoices have a 30 day payment period you will pay considerably less than if they have a 90 day payment period.
Invoice factoring cost example
Let’s consider a £20,000 invoice which is due for payment in 30 days. As a small business, you need some urgent cash to be able to buy the resources you need to take on a new client. So you turn to invoice factoring.
The company you choose has a discount rate of 3% per month. Their terms state that you will get 80% of the invoice cost immediately (usually within a day or two), and full payment on the invoice when your client pays.
This means that you will immediately receive £16,000. You do not have to wait for the customer to pay the outstanding invoice. Assuming your customer pays the outstanding invoice in time, by 30 days, you will then receive £3400. This is the outstanding amount minus the 3% rate which is equivalent to £600.
In this example, the cost of factoring is £600.
What can affect the cost of factoring?
A factoring company will have their set parameters of how they usually work out a factoring rate. This will look at two key factors: the risk, and the volume of invoices.
Generally speaking, the lower the risk and the greater the volume, the lower the factoring charges. Conversely, the higher the risk, and the lower the volume, the higher the invoice factoring costs.
Understanding this in more detail requires an understanding of exactly what an invoice factoring company will be looking for to calculate factoring fees. The invoice factoring company is going to assess your risk and volume using certain criteria.
Invoice factors will consider:
- How much you will be factoring: The greater the volume, the lower the rates. This is probably the biggest determiner of your invoice factoring rates.
- The size of each invoice: No matter what the size of an invoice, the legwork for collection is exactly the same. Therefore it pays to have fewer larger invoices rather than lots of smaller ones. The invoice factoring company may seek to pass the costs of collection onto you, so consider which invoices you factor wisely.
- Your business niche and industry: The invoice factoring company will assess your business niche and the track record of your industry when determining your invoice factoring rates. Certain industries, such as recruitment, tend to be considered low risk as payment is normally simple and straightforward. On the other hand, the building trade can find themselves facing higher rates as they are deemed higher risk.
- The reliability of your clients: Reliable clients, who have a track record of paying on time, make for lower invoice factoring fees than those with a poor credit history. This does not always directly affect fees, but you may need to be more aware of overdue fees, or that the invoice factoring company may not accept invoices from certain clients at all.
- Your business reliability, longevity and turnover: Many factoring companies in the UK will want you to have been trading for at least a year. This can pose a problem for some start-ups. They may also expect you to have a minimum turnover, perhaps in the region of £25,000. In the UK, some invoice factoring companies want you to be a limited company. Being able to prove reliability will help you negotiate lower rates.
Compare invoice factoring prices and quotes
The information on this page should help you to understand invoice factoring better, and it should also help you to understand exactly what you will be paying for. To find the exact prices that you will be paying, you should speak to as many suppliers as possible – we can help here.
Complete the form on our first page to compare quotes from up to four, top-quality UK invoice factoring companies.