5 Common Accounts Receivable Factoring Mistakes | Behalf
5 Common Accounts Receivable Factoring Mistakes
Accounts receivable factoring is a type of financing that allows companies to sell outstanding receivables for a cash advance. Many vendors are factoring account receivables because they do not want to wait around for their customers to pay. Accounts receivable factoring is extremely helpful for companies that extend trade credit to their customers. Often, their accounts receivable departments struggle to keep track and follow up with slow or non-paying customers. Receivable factoring is a proven solution to lessen the burden of collections on an accounts receivable department.
That being said, accounts receivable factoring is not for every company. It is important that you find out what solution best suits your business needs, for your accounts receivable department’s sake. Accounts receivable factoring is expensive and often requires a significant workload commitment, so you want to make sure it will work with your business model and customer base before you invest time and money. If you decide to move forward, proceed with caution to avoid unnecessary mistakes. Receivable factoring may seem straightforward, but there is ample room for error. This article reviews 5 common mistakes companies make with accounts receivable factoring.
1) Misunderstanding accounts receivable factoring rates and fees
There are two parts of a receivable factoring transaction: the advance and the rate. Before you commit to a factoring company, you need to have a good sense of both. Many companies are blindsided by the exorbitant cost of receivable factoring, because they ask the right questions too late. The fees you incur with accounts receivable factoring are not the same fees you get with a bank loan. Depending on the factoring company you may be charged an application fee, credit check fee, advance fee, etc. Ask what fees your company will be charged beforehand. Also ask upfront what exact percentage of your invoices does your advance cover. The advance is typically 60-80% of your invoices; you want their answer to fall somewhere within that range or higher.
2) Overlooking the terms of your accounts receivable factoring contract
Check the terms of your accounts receivable factoring contract for minimum requirements and flexibility. Some receivable factoring companies require a minimum volume of invoices monthly. Be aware of the minimum, so you do not mistakenly incur penalties. Also pay attention to the factoring company’s flexibility. In some cases, you may be able to choose individual invoices for financing or you may have to submit all invoices for a select customer.
3) Factoring the wrong customer’s invoices
If you are aware that a customer pays late and has poor spending habits, do not factor their invoices. (This is precisely the type of customer that most businesses plan to unload through Factoring.) However, factoring irresponsible customers is a huge mistake, because most accounts receivable factoring arrangements ultimately leave you accountable for unpaid invoices. The practice of “recourse” stipulates that you will owe the factoring company for your customer’s outstanding invoices, as well as your rates and fees. Understanding recourse and how the health of your customer base affects your factor’s terms should be a key part of your negotiation. Make sure any customer population sample you provide to the receivable factor during your negotiation is representative of your entire base so that the factor does not deny your company’s application or give you unfavorable terms.
4) Botching the application
The application for accounts receivable factoring is different than other business financing applications. Some companies fill out the application like they would a business loan application and are denied. Fill out the application carefully, accurately and completely. You do not have to put as much emphasis on your company’s credit score, as you would with a loan application. Focus on your social media presence to show that you are a legitimate company. Only select established customers for factoring that demonstrate good spending habits and are financially stable.
5) Failing to Direct Customer Payments to Factoring Company
Make it clear to your customers that they must submit payment directly to the accounts receivable factoring company. When customers send payments to your company it creates a paperwork burden on you – exactly what you were trying to avoid by outsourcing collections to a receivables factor. This will slow down the payment process and could lead to late payments, which can then lead to penalties and jeopardize your relationship with the factoring company.
Accounts receivable factoring is a minefield that must be navigated wisely for companies and their customers. Fees are high and complicated factor relationships often lead to additional friction in the collections process, which is exactly what most companies are trying to avoid when they go the factoring route. Business financing does not have to be this risky. Consider offering your customers a purchasing line of credit that gives them the extended payment terms they need while ensuring you get paid fast at a low processing rate. When you accept payment on your customers’ Behalf, they can qualify for up to $50k in funds and create their own payment plan with up to six months of extra time. They can use the funds to make larger, more frequent business purchases and regardless of the terms they choose, you always get paid in full within 1 business day. No paperwork. No recourse. No uncomfortable collections calls.
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