Factoring is a way for businesses to improve their cash flow without taking out a bank loan. An alternative lender purchases the business accounts receivable invoices at a certain percentage of the face value. The fees for the process are taken out of the total amount collected from the invoices. The percentage paid depends on the type of transaction selected for factoring. Businesses that select recourse factoring will get a higher percentage of the invoices, which translates to lower transaction fees. The payment is higher because the business agrees to take some of the risk involved when customers do not pay the invoices in full.
In those cases, the invoice is sent back to the business by the lender for purposes of collection. The business assumes the time and costs associated with calling the customer for payment, or utilizing a collection agency to secure payment. Some businesses, especially small ones, select non-recourse factoring to avoid dealing with the time and costs of collections. The cost of allocating a staff person to follow up with the non-paying customer, tracking down payments, or hiring a collection agency can be expensive. It is often easier and cheaper to have the lender assume all that risk and responsibility. That choice does come at some cost.
Non-recourse factoring incurs higher fees, since the lender is taking all the risk. The difference here is reflected in the percentage of the invoice paid. Typically the difference between recourse and non-recourse factoring is one to five percent. That can add up to a substantial amount of money, depending on the total of invoices factored. Business owners should compare the costs of possible collection efforts with the total cost of factoring fees for non-recourse transactions before arriving at a decision. If customers are known for full payment in a timely manner, the risks are low that an invoice will go unpaid. Non-recourse factoring is wise when the customers are new to the business, the business has no real support staff positions, or several projects are scheduled at one time. A busy schedule leaves no time to deal with unpaid invoices. Keep in mind that lenders often offer both types of factoring, so business owners can alter agreements as needs and circumstances change.