One of the advantages of invoice financing is that most transactions are not structured as loans. Instead, the client sells their accounts receivable to the finance company in exchange for an immediate payment. This article describes how a company sells their invoices to a finance and covers the following:
- Invoice financing basics
- What is the client selling?
- Setting up an invoice financing account
- How are invoices sold?
1. Invoice financing basics
Invoice financing is a type of debtor finance. It helps companies with cash flow problems due to slow-paying invoices.
Your invoices are purchased in two instalments. The first instalment covers 70% to 85% of the invoice and is deposited in your bank account soon after submitting the invoice to the finance company. The second instalment covers the remaining 15% to 30%, less the cost of the service. It is deposited to your account once your end customer pays the invoice in full.
Unlike conventional loans, invoice finance is easy to obtain by small business owners. This is because transactions are not underwritten like loans. Instead, they are underwritten as the sale of accounts receivables. This important difference enables invoice financing companies to offer funding to small companies with creditworthy commercial clients.
Learn more about invoice finance and how it works.
2. How are invoices sold to a finance company?
Your company can sell an invoice to a finance company only when you have fully delivered to the client all the services/products associated with that invoice. At this point, your responsibilities to the client have been fulfilled and your client must now pay the invoice in your agreed 30- to 60-day terms.
When a client sells an invoice to a finance company, they are actually selling the financial rights associated with that invoice. Your company is selling the payment that is due to come from your client in 30 to 60 days. That finance company buys the invoice and pays for it immediately. Since the finance company has paid you for the invoice, they now “own” the payment that arrives later on.
3. How to set up an account
Before selling your accounts receivable to a finance company, you first have establish an account with them. Most finance companies can set up an account in a few days. Once you have selected a finance company, you can start the process of establishing an account.
a) Submitting an application
The first step in establishing an account is to apply for financing. Each company has its own application process, but most finance companies ask for the same set of documents. Once the finance company receives your application, they perform their due diligence.
b) Due diligence
Finance companies perform some basic due diligence before buying your invoices. Basically, the company needs to determine if your company can sell its receivables and whether your clients have good business credit. This process is quick and is completed soon after the finance company gets all the needed materials.
c) Contract agreement
The last step in setting up an account is to review and execute the contract. Read the contract carefully and review it with a lawyer. Contracts include critical information such as recourse type, rates, terms, and so on.
4. How to sell invoices to the finance company
With an account in place, the finance company is ready to buy your invoices. The process is fairly simple and can usually be done quickly.
a) Send a Notice of Assignment (one time per end-customer)
The finance company needs to send a Notice of Assignment (NOA) to every customer you want to finance. This document advises your end customer that the accounts receivables have been sold. Every finance company uses a Notice of Assignment. The NOA is sent only once at the start of the relationship.
b) Submit or upload invoices
Submitting invoices is simple and can be done online or via email. In most cases, a special ledger report accompanies the invoices. Clients use this document to list the invoices they are selling to the finance company. You can use this process every time you need to sell invoices to the finance company.
c) Verification and funding
Finance companies verify invoices before buying them. Once the invoices have been verified, the finance company deposits the advance in your bank account. This process helps ensure that the invoice amount is correct and that it is still due from the end customer.
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