What is Accounts Receivable?
Accounts receivable (A/R) is an accounting ledger listing the money owed to a company. It keeps track of what customers owe.
Selling on credit is when a business provides goods or services with an agreement that the customer pays later. The company selling on credit issues an invoice that lists the amount owed and the due date. Payment terms are usually 30, 60, 90, or 120 days.
The company records the transaction and invoice information in its A/R ledger when the goods or services are delivered. When the customer pays, the company makes another journal entry to reflect the change.
Invoicing customers and using A/R is common, especially in business-to-business (B2B) transactions. Some businesses offer early payment discounts to encourage clients to pay. A/R is reported on a company’s balance sheet.
Why Do Companies Sell Receivables?
There are several reasons small business owners sell A/R, sometimes called accounts receivable financing. Companies experiencing rapid growth then use accounts receivable financing to collect money on outstanding invoices.
Most factoring companies provide cash advances within 24 hours of selling A/R invoices. Quick access to working capital gives small businesses more room to operate, grow, and invest.
Stable Cash Flow
It’s difficult to accurately predict the flow of funds when customer payments come in at different times. When a business factors receivables, it knows exactly when and how much it gets paid, making it easier to budget and stay on top of expenses.
Solve Working Capital Needs
Selling A/R assets is a form of working capital financing. Companies that factor invoices are usually trying to solve an immediate need like making payroll or paying rent.
The Factoring Company Handles Collections
When a company buys A/R assets, it collects the invoice payment. Some businesses benefit from the factor handling the back-office billing work. Companies that use whole ledger factoring don’t need a collections department.
How Does Selling A/R Work?
Selling receivables is known as accounts receivable factoring or invoice factoring. The first step is to partner with a third-party company called a factoring company or Factor.
When you sell accounts receivable, the factoring firm buys them at a discounted rate. Small businesses receive a cash advance from the factor. The advance rate is a percentage of the discounted price.
For example, if a business factors $50,000 in receivables at the discount rate of 2%, the sale value is $49,000. If the advance rate is 95%, the business receives a cash advance of $46,550.
The company puts the remaining $2,450 into a reserve account until it collects payment from the business’s customers. Once the customers pay their invoices to the factor, it releases their reserve amount minus any fees for services rendered.
A/R Factoring Process
- Step 1: Sign a factoring agreement to start the factoring relationship.
- Step 2: Deliver the goods or services to your clients.
- Step 3: Send the invoice to the Factor for approval.
- Step 4: The factor sends a cash advance to your business bank account.
- Step 5: The factor waits to get paid when your client pays their invoice.
- Step 6: The factor sends you the reserve amount minus their fees.
What is an A/R Factoring Company?
A factoring company, or factor, is a financing institution that purchases receivables at a discounted rate in exchange for providing a cash advance. The factor then becomes responsible for collecting the invoice amount.
Let’s look at some of the key differences between different factors.
Recourse vs. Non-Recourse
Recourse factoring means your company is liable if your customers default on their invoices. In non-recourse factoring, you don’t have to pay if your customers default due to bankruptcy.
Some factors will notify your customers when they purchase the invoices, and others will not. If you don’t want your customers alerted when you sell their invoices, look for a company that doesn’t notify them. United Capital Source won’t notify your customers.
Some factors stand out because they offer enhanced services to help you process invoices. Some additional services to consider when looking for a factoring company include:
- Easy invoice uploads.
- Integration with your accounting software.
- Credit checks on your customers.
- A/R processing tools.
- Online portals or mobile apps for convenient processing
How do I Sell My Receivables?
The first step is to find a factor that works for your business. You can review our list of Best Factoring Companies or apply directly through our website.
One of the benefits of factoring is that it has lower qualifications than traditional small business financing. Factors look at your client’s credit more than yours since repayment comes from your customers.
Some companies don’t have any minimum requirements, but most approved businesses meet the following qualifications:
- Credit score: 550+.
- Annual revenue: $250k+.
- Time in business: A least 1 year.
Applying through United Capital Source
You can apply for invoice factoring with our one-page application. One of our loan experts will reach out to discuss the best options for your business.
Frequently Asked Questions
Here are some of the most common questions about selling accounts receivable.
What are the Benefits of Selling A/R?
The main benefits of selling outstanding receivables are fast funding and solving cash flow problems. In addition, the factor acts as your A/R back office and handles collections.
Invoice factoring is not a loan and doesn’t incur debt. It’s much easier to get approved for invoice factoring than traditional business loans.
What are the Risks of Selling A/R?
The biggest risk is the cost, but it might be worth the rates and fees if it means creating consistent cash flow and covering necessary expenses. Rates are determined by how long it takes customers to pay their invoices.
Let’s look at the pros and cons for a quick summary.
A/R Factoring Pros & Cons:
- Turn unpaid invoices into cash.
- Easier to qualify for than most business financing.
- You can use the funds for a variety of business purposes.
- Invoices and receivables are treated as collateral.
- Higher rates & fees than traditional loans.
- Fees are based on how long customers take to pay their invoices.
Selling Accounts Receivable – Final Thoughts
Receivables factoring is best for small businesses that need immediate working capital to cover expenses. It’s more expensive than traditional financing but easier to qualify and lets you access the assets in A/R sooner than waiting for your customers to pay.
When selecting an invoice factoring company, check out customer reviews and look for transparency. You want to avoid any hidden fees or charges.
At UCS, we provide an upfront breakdown of all costs. Contact us to discuss your accounts receivable factoring options.