How Debt Factoring Works
Debt factoring arrangements take place
when a business sells its accounts receivables to a factor at a
discount. The factor then collects the receivables from the
customers. This arrangement is used to improve cash flow for a
business.
Factoring begins
when a factor evaluates a business and its receivables. The
factor will want to get an overall idea of how the business
operates and the collectibility of its receivables. These
will be key factors in creating the factoring agreement and
determining the discount.
When a factoring arrangement is first entered into, the
factoring company will typically issue an advance for
outstanding approved invoices. The payment will be at a value
or percentage agreed to within the factoring agreement. The
factor would then commence collecting outstanding accounts
receivable directly from the customer.
Any new sales would involve both the customer and the
factor. Once a sale takes place an invoice would be sent to the
customer with instructions to pay the factor directly. The
factor also receives notification of the invoice and makes
payments to the business at the levels agreed to within the
factoring agreement. Debt factoring is typically a long term
arrangement. Since the factor becomes involved in the
businesses sales processes. If a business no longer wants to
use a factor, it can be a process of several months to end the
service.
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