Business Financing: Accounts Receivable Financing vs Invoice Factoring

Business Financing: Accounts Receivable Financing vs Invoice Factoring
Kari Cotone


Kari Cotone

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When it comes to invoice financing, service providers like marketing agencies and creative small businesses often face this far-too-familiar obstacle: getting invoices paid on time. 

While chasing payment balances is a pesky task nobody has time for, there can be even more challenges that accompany outstanding invoices. When you aren’t being paid on time for your services, you don’t have access to the working capital you need to scale your business. And let’s be honest, the last thing you want to do is take out a business loan or line of credit. 

If you’re searching for a short-term solution to receive the money you’re owed from clients and customers, there are a few options available. Here, we’re diving into the most common services so you can determine the best option for your business's current and future needs.

Accounts Receivable Financing

Accounts receivable financing services take on the responsibility to collect the payments owed by customers for goods and services your business has provided.

How it works:
  • You retain ownership of the invoices and are responsible for collecting the payments owed to you.
  • The lender will issue an advance to loan you the money owed to your business. They obtain those invoices as collateral — or security for repayment of a loan.
  • You will be charged interest on the advance, typically between 1.15% – 4.5%. This is often calculated as a percentage of the invoice and only applies to the advanced loan amount. It’s also calculated as the annual rate that can be charged on a weekly or monthly basis. Think about it this way, if you’re charged 4% of your total invoice, and you used invoice factoring on a $200,000 invoice with a 30-day term every year, you would pay $657.53 (($8,000/365)*30).
  • You make payments on your loan, usually on a weekly or monthly basis. The longer you take to pay back the advance, the more interest will accrue.
  • If you do not repay the cash advance you received, the loan could go into default and the lender will either collect from you or your accounts receivable, if it’s needed as collateral for the default loan. 
Accounts receivable financing in action:

You’re an agency who works with a variety of brands. You send invoices through a payment platform (perhaps you use Lumanu to collect payments!). One month you realize you have multiple outstanding invoices adding up to $100,000 — yikes. Having a healthy cash flow could allow you to meet your business needs and help you run the day-to-day of your business. 

You are sending email reminders about the payments you’re owed but you need immediate cash. You work with an accounts receivable financing service to receive a loan of the total amount owed to you. You can also explore additional financing solutions like taking out a line of credit or putting the charges on a credit card.

You are charged a 3.5% interest fee for the accounts receivable advance rate, so you’ll have to pay an additional fee of $3,500 when paying back your loan. If it takes more than 30 days to repay the loan, more interest will accrue. With the recent spike of interest rates, this could cost you more than it normally would.

Is it worth it?

From our point of view, accounts receivable is an option for folks who know the money that is owed to them will be paid within 30 days, but need their money immediately. If not, you could be paying accumulating interest and lose a large sum of cash in the long run.

Invoice Factoring

Invoice factoring invites a business to sell their invoices and allows the service to take responsibility for collecting the outstanding balances from clients and customers.

How it works:
  • The invoice factoring service buys your outstanding invoices and takes ownership over them.
  • They charge a fee depending on the total balance of your outstanding invoices — typically between 1.5% – 5%
  • They forward you a percentage of the outstanding balance — usually 80% of the total amount owed to you (after their fee).
  • The service will take on the responsibility of collecting invoices for the clients or customers with outstanding balances.
  • If the balances are settled on time, they send you the remaining 20% of the total amount owed. However, if your client ends up paying late, then the invoice factoring service could reduce the final amount sent to you based on the late payment penalty schedule. 
Invoice factoring in action:

You run a boutique marketing agency and are waiting on overdue invoices from a brand you worked with many months ago. You’ve circled back about the outstanding balance of $50,000 to no avail. Frankly, you’re spent and can no longer commit time or resources to collect this payment.

You decide to work with an invoice factoring company so you no longer have to chase after the money owed to you. After charging a 4% service fee ($2,000), they forward you 80% of the remaining balance, or $38,000, in cash while they work on obtaining the payment.

A month or so later, they have collected the payment balance from your client. The invoice factoring service sends you the remaining balance of $7,600.

Is it worth it?

If you’re fed up with chasing a client, need the cash, and would rather pay an invoicing factoring service to deal with the issue, this could be a viable option. However, if you have a collection of overdue invoices adding to a large number, the invoice factoring fee could add up and hurt your business in the future.

EarlyPay by Lumanu

Created to give your business access to immediate cash and instant working capital, EarlyPay pays you before your client’s payment terms.

How it works:
  • You send an invoice using Lumanu for Business (for agencies, talent managers, and small businesses).
  • Request EarlyPay on an invoice and Lumanu will notify you if the invoice qualifies for EarlyPay. 
  • Your request for EarlyPay is approved, and for a small 2.9% fee*, your invoice balance is transferred to your Lumanu balance where you can immediately cash out into your bank account.
  • Lumanu invoices are complete with automatic email reminders to your client about upcoming and overdue payments but thanks to EarlyPay you’ve already been paid.

*net 30 invoice

EarlyPay in action:

You’re a creative agency who needs to upgrade your lighting equipment for an upcoming shoot. You know EarlyPay is an option for your unpaid invoice of $3,000, so you decide to cash out using the money you’re owed to purchase the new equipment.

Within days $2,913 (the invoice balance minus the 2.9% fee) has been transferred to your bank account. You can purchase your new and improved lighting setup without fear of emptying your bank account or needing to take out a line of credit.

Is it worth it?

The 2.9% fee is comparable to other services, but what makes EarlyPay a worthwhile option is the lack of accruing fees or interest. You don’t have to wait for your invoice to get paid with loan payments hanging over your head, and that peace of mind is priceless

Here’s a Lumanu pro-tip: If you plan to cash out an invoice using EarlyPay, add the 2.9% fee into your total rate when you create a project proposal. This way you won’t feel like you’re losing part of your profit at all. Consider EarlyPay an essential business expense!

Want to give Lumanu a try? Schedule a demo to learn more about Lumanu for Business!

Kari Cotone

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