How to choose between debt factoring and invoice discounting

With businesses wiping off an average £40K in outstanding invoices over a 12 month period spanning between 2023 and 2024, it’s no surprise many are turning to alternative finance solutions like debt factoring and invoice discounting. Here’s what those two financing solutions are and some thoughts on how to choose between them.

What is debt factoring?

Debt factoring, also known as invoice factoring, is when you sell your outstanding invoices to a factoring company and they take on the debt. Be careful when setting this up – there is a form of debt factoring called recourse factoring. This version means that if the client doesn’t pay the factoring company by a specific date, you may have to buy back the invoice.

Pros of debt factoring

• Some forms of debt factoring mean you may be able to sell the debt outright to the lender

• The factoring company chases invoices for you, possibly freeing up some of your time spent on financial administrative duties

• Factoring companies run credit checks on your customers, this could help improve your company credit control processes

Cons of debt factoring

• It’s usually more expensive than invoice discounting

• Depending on the type of agreement you sign, you may still be liable for the debt if your client doesn’t pay

• Your clients may have to change the account they pay into

• Similar to the above point, invoice factoring is not confidential, your clients will know that you have engaged in this form of finance

What is invoice discounting?

Instead of selling your invoices, invoice discounting is where you borrow money against outstanding invoices. Essentially, you raise an invoice, send it over to the lender, they send you 80-90% of the cash in advance. Then you collect the funds from the end client, the lender takes their fee, and you keep the rest.

Pros of invoice discounting

• Invoice discounting is more confidential than invoice factoring. It’s possible you may be able to access this form of funding without your clients finding out

• It’s cheaper than factoring

• If used carefully and correctly, invoice discounting could be a suitable way to manage cash flow and gain access to working capital during times of fast growth. For instance, if you sign a large client and need to deliver a high workload before the client pays, invoice discounting could help smooth out this period

Cons of invoice discounting

• You’ll still have to chase invoices and process payments

• Customers paying late would likely present an issue – making invoice discounting unsuitable for any borrowers whose clients do not pay on time

• Once you set it up, it can be easy to fall into a debt cycle, wherein you use the discounting solution over and over each month for a growing number of clients and it begins to eat into your profit margins 

How to choose between invoice factoring and invoice discounting

The choice between factoring and discounting is, of course, yours, but as a general rule of thumb, if you’re looking to retain control over your relationships with your clients, invoice discounting may be a more suitable option. On the other hand, if you’re looking for another company to manage the collection process for you, debt factoring might be more suitable.

It’s important to remember that invoice finance is only as good as the strength of your debtors, customers may have to change the account they pay into, and it can be admin heavy.

Find debt factoring or invoice discounting with Funding Options by Tide

We connect eligible borrowers to our team of experts, who can help them find and choose financing solutions from our network of over 120 lenders offering everything from debt factoring, to invoice discounting, to commercial mortgages. Click the link below and submit your information to find out more.

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Please note that the information above is not intended to be financial advice. You should seek independent financial advice before making any decisions about your financial future.

It’s important to remember that all loans and credit agreements come with risks. These risks include non-payment and late-payment of the agreed repayment plan, which could affect your business credit score and impact your ability to find future funding. Always read the terms and conditions of every loan or credit agreement before you proceed. Contact us for support if you ever face difficulties making your repayments.

Funding Options, now part of Tide, helps UK firms access business finance, working directly with businesses and their trusted advisors. Funding Options are a credit broker and do not provide loans directly. All finance and quotes are subject to status and income. Applicants must be aged 18 and over and terms and conditions apply. Guarantees and Indemnities may be required. Funding Options can introduce applicants to a number of providers based on the applicants' circumstances and creditworthiness. Funding Options will receive a commission or finder’s fee for effecting such finance introductions.