How Do Factoring Fees Work?
There are a number of different ways that factoring companies can set up their fee structure. Today we will cover the most simple and commonly used.
The most simple way to set up a factoring arrangement is by using an advance rate and a fixed factoring fee. Under this arrangement, the client is allowed to sell invoices to the factoring company whenever they choose without paying other fees when the facility is not used. This benefits the client by not adding any expenses when the facility is put in place and allowing the client to only pay fees when the facility is used. This is the factoring structure that Velocity Financial uses due to its simplicity and flexibility to clients.
Under this structure, a client sells an invoice to the factoring company and immediately receives the “advance rate”. This is typically 85-90% of the invoice amount depending on the industry and is the first payment the client receives of two payments. The remaining 10-15% of the invoice is held in reserve until the client’s customer pays the invoice.
Once the invoice is paid by the client’s customer, the remaining 10-15% that was held in reserve is paid to the client less the factoring fee. The factoring fee under this structure is calculated by the amount of time it takes for the client’s customer to pay after the invoice is purchased.
For example, let’s say a client has a 90% advance rate and a factoring fee of 1% every 15 days. If the client sells an invoice to the factoring company for $10,000, they will receive $9,000 immediately. If the invoice pays 45 days later, they will receive $700 and the factoring company would receive a fee of $300.
The beauty of this structure is that the client does not pay any fees until they decide to factor the invoice. It is also flexible in that the client can pick and choose when they would like to factor and are not forced to pay factoring fees when unnecessary.
We will cover other factoring structures in a later article. In the meantime, be sure to review your factoring agreement carefully to make sure that you 1) have a simple and understandable fee structure, 2) will not be required to sell all of your invoices to the factoring company even when you don’t need to, and 3) are not locked into the contract by a hefty termination fee or lengthy notice period.
