The short version
Invoice finance gives you most of an unpaid invoice now, instead of waiting 30, 60 or 90 days for your customer to pay. The lender advances a percentage of the invoice, usually 70% to 90%, and pays you the rest, minus their fee, once the customer settles.
The cost comes in two parts: a service fee for running the facility, and an interest charge on the money you have drawn. Here is how the advance rate and both fees work, with the numbers.
What is the advance rate?
The advance rate is the percentage of an invoice the lender pays you up front. Most sit between 70% and 90%.
Say you raise a $100,000 invoice and your advance rate is 85%. The lender pays you $85,000 straight away. The remaining $15,000 is held back as a reserve. When your customer pays the invoice, the lender releases that $15,000 to you, minus their fees.
The reserve protects the lender if a customer short-pays or disputes the invoice. A strong book of customers and a solid trading history usually earn a higher advance rate.
The two costs
Invoice finance is priced with two fees. Read them together, not separately.
- The service fee, sometimes called a discount fee. This covers running the facility: managing the ledger, and in some arrangements chasing payment. It is usually charged as a percentage of each invoice or of your turnover, often somewhere around 0.5% to 3%. The exact number depends on your volume, your industry and your customers.
- The interest charge. This is charged on the funds you have actually drawn, for as long as you have them, much like an overdraft. Pay the money back quickly and you pay less interest.
So the total cost depends on two things you partly control: how much you draw, and how fast your customers pay.
A worked example
You factor a $100,000 invoice at an 85% advance rate. Your customer pays in 45 days.
- Day one: the lender advances $85,000.
- Service fee, say 1.5% of the invoice: $1,500.
- Interest on $85,000 for 45 days, at an annual rate around 10%: roughly $1,050.
- When the customer pays, you get the held-back $15,000, minus the fees already counted.
Total cost for that invoice: about $2,550, to have $85,000 in hand 45 days early. Whether that is worth it depends on what the cash does for you: a supplier discount, a wages run, or a new job you could not otherwise take.
Factoring vs invoice discounting
Two shapes of the same idea:
- Factoring. The lender manages the collection, and your customer usually knows the invoices are financed.
- Invoice discounting. You keep managing your own collections and it stays confidential.
Discounting is usually a little cheaper and suits businesses with a solid credit-control process. Factoring hands the admin over. More on where each fits in SME cashflow finance options.
Is it worth it?
Invoice finance is not the cheapest money, but it is not meant to be. It buys time. If waiting 60 days for payment is stopping you paying wages, taking on a bigger order, or hitting a supplier discount, the fee can be smaller than what the delay costs you.
Where it goes wrong is using it to plug a hole that never closes. It works best against real, collectable invoices from decent customers.
A broker reads your ledger and your margins and works out whether invoice and debtor finance actually pays for itself, and which lender prices it best for your book. Start an application. It takes under a minute, and most enquiries get a response within four business hours.