What is invoice factoring?
Invoice factoring is a facility in which a business sells its unpaid sales invoices to a third-party finance provider, known as a factor. The factor advances a large proportion of the invoice value upfront, typically between 70% and 90%, and then manages the collection of payment directly from your customers. Once the customer pays, the factor releases the remaining balance minus their fee.
Unlike invoice discounting, factoring is a visible arrangement. Your customers will know that a factoring company is involved because their invoices will carry payment instructions directing funds to the factor. This is sometimes called 'disclosed' factoring. For many UK businesses, particularly those with high volumes of B2B invoices and stretched payment terms, factoring provides a straightforward way to maintain a healthy cash flow without taking on traditional debt.
How invoice factoring works
The process follows a clear cycle. You raise an invoice to your customer as normal. You then upload or submit that invoice to your factoring provider. The factor advances you a pre-agreed percentage of the invoice value, typically within 24 hours. Your customer pays the factor directly when the invoice is due. The factor pays you the remaining balance after deducting their service charge and any discount rate for the period the invoice was outstanding.
- You issue an invoice to your B2B customer
- The factor advances up to 90% of the invoice value
- The factor manages credit control and chases payment
- Your customer pays the factor directly
- You receive the remaining balance minus fees
Benefits of invoice factoring
The primary benefit is immediate access to working capital tied up in your sales ledger. Instead of waiting weeks or months for payment, you can reinvest that cash into stock, wages, supplier payments, or growth opportunities. The cash flow benefit compounds over time as your ledger grows.
A secondary benefit, particularly for smaller businesses without a dedicated credit control team, is that the factor takes on the task of chasing your customers for payment. This frees up management time and can also reduce debtor days compared to in-house collections.
- Releases cash tied up in unpaid invoices within 24 hours
- Scales with your turnover, so the facility grows as your business grows
- Reduces the need for an in-house credit control function
- No fixed monthly repayment, unlike a business loan
- Can be used alongside other finance facilities
Risks and considerations
The main consideration with factoring is cost. You will pay a service charge (typically 0.5% to 3% of turnover) plus a discount rate on the funds advanced (typically 1% to 3% over base rate). The combined cost must be weighed against the benefit of having the cash available sooner.
The disclosed nature of factoring means your customers will know you use a factoring facility. For some businesses in certain sectors this is standard practice and carries no stigma, but for others it is a commercial sensitivity worth considering. In those cases, confidential invoice discounting may be a better fit.
You remain liable for customer non-payment in most recourse factoring arrangements. If your customer does not pay, the factor will charge the invoice back to you. Non-recourse factoring, which includes credit protection, is available but typically costs more.
Worked Example
A recruitment agency raises invoices totalling £200,000 per month, with 60-day payment terms. Without factoring, up to £400,000 is tied up in their sales ledger at any point.
- The agency enters a factoring facility with an 85% advance rate
- On a £50,000 invoice, the factor advances £42,500 within 24 hours
- The customer pays the factor after 55 days
- The factor releases the remaining £7,500 minus a 1.5% service charge (£750) and discount rate charges of approximately £350
- Net cost on this invoice: approximately £1,100 (2.2% of invoice value)
The agency improves its cash position by over £300,000 compared to waiting for customer payments, enabling it to fund new placements and payroll without drawing on overdraft facilities.
Eligibility
- UK limited company or LLP (some factors accept sole traders)
- Minimum 6-12 months trading history (varies by lender)
- B2B invoicing only, not B2C retail
- Invoices must be for completed goods or services
- Minimum monthly turnover requirements (typically £50,000+, though some accept lower)
- No unresolved HMRC or Crown debt
Frequently Asked Questions
How quickly can I receive funds through invoice factoring?
Once the facility is set up, most factors advance funds within 24 hours of submitting an invoice. The initial set-up process typically takes 5 to 15 working days.
Will my customers know I use invoice factoring?
With standard invoice factoring, yes. Your invoices will carry payment instructions directing customers to pay the factor. This is called disclosed factoring. Confidential arrangements are also available through invoice discounting.
What percentage of my invoices can be advanced?
Advance rates typically range from 70% to 90% of the gross invoice value, depending on your sector, debtor quality and trading history. The remaining balance, minus fees, is paid once your customer settles.
Is invoice factoring the same as invoice discounting?
No. Both release cash against invoices, but with factoring the provider manages your credit control function and your customers pay them directly. With invoice discounting, you retain control of collections and customers pay you directly, making it a confidential arrangement.
What does invoice factoring cost?
Costs comprise a service charge (typically 0.5% to 3% of turnover) plus a discount rate on advanced funds (typically 1% to 3% over the Bank of England base rate). Total cost as a percentage of turnover varies by facility size, sector and debtor quality.
Can I factor individual invoices rather than my whole ledger?
Standard factoring covers your whole sales ledger. If you want to fund individual invoices selectively, selective invoice finance or spot factoring may be a better option.