Is Invoice Factoring Better Than an ACH Loan?

In recent years, a type of Merchant Cash Advance known as an ACH Loan has been gaining popularity as a way to finance small businesses. Often, companies compare ACH Loans against other products, such as factoring and purchase order financing, to determine which offers the best solution to their problems.

This article compares ACH Loans against invoice factoring. It covers each product’s advantages and disadvantages. Once you have finished the article, you should have a good idea of which product is better tailored to your needs.

Definition: ACH loan

An ACH loan is a term to describe a specific type of Merchant Cash Advance in which the lender finances your future sales. The lender reviews your financial statements and bank deposit track record to determine the maximum amount that they can offer. Once the loan package is underwritten, the lender deposits the funds directly into your bank account.

To pay back the loan, the lender makes periodic withdrawals from your bank account. The lender makes these withdrawals daily, weekly, or monthly, until the advance is fully repaid. These loans are called ACH loans because deposits and withdrawals are made through the Automated Clearing House (ACH) system. Deposits through the ACH are commonly referred to as “direct deposits.”

Definition: Invoice Factoring

Invoice factoring is a product that helps companies that have cash flow issues due to slow-paying commercial customers. In most commercial sales, clients pay their invoices in 30 to 90 days. This delay can cause cash flow problems.

The finance company reviews the credit quality of your commercial invoices and provides an advance for invoices that qualify. This advance provides the funds to operate your company and secure new business. Each invoice financing transaction settles as your clients start paying their invoices on their usual schedules .

This type of facility can be used on an ongoing basis to improve your cash flow.

Advantages of ACH loans

ACH loans have a number of advantages, especially for small companies. Here are the three most important advantages.

#1 They are relatively easy to get

Most ACH loans are relatively easy to get. Your company just needs to submit some basic paperwork. Applications often include financial and bank statements.

#2 They can be obtained quickly

ACH finance companies can process applications very quickly. Often, they can get your company funded in a few days. This rapid turnaround makes ACH loans an interesting alternative for companies that need funds quickly due to an emergency.

#3 They are available to companies that do retail or commercial sales

One important advantage of ACH loans is that they can be used by companies that have commercial and retail sales. Factoring, on the other hand, can be used only by companies that handle commercial sales only.

Advantages of factoring

Factoring has a number advantages (learn pros and cons), especially if your company works with commercial clients and has cash flow issues. Here are the most common advantages.

#1 It is easier to get than conventional financing

Getting a factoring line is comparatively easier than getting a bank loan or line of credit. The most important requirement to qualify is to have creditworthy commercial clients.

#2 It can be deployed quickly

Most factoring lines can be deployed quickly. The initial funding usually takes place in three to five days. Subsequent funding transactions can be done in one business day or less.

#3 It is flexible and grows with your business

Factoring lines are flexible and adapt to your business. Your line can increase, often quickly, to adapt to business growth and new sales. A factoring line can be an ideal option for companies that have cash flow problems because they are growing too quickly.

#4 Your past bank account history is not very important

Factoring can be used by companies that have had financial problems and whose bank deposit accounts are not perfect. Often, factoring is used by companies that are trying to turn around their business due to prior difficulties.

Disadvantages of ACH loans

Like every financial product, ACH loans have some disadvantages as well. Let’s explore the most common disadvantages.

#1 They have a fixed value

Perhaps the major drawback of an ACH loan is that it has a fixed value, much like a conventional term loan. Therefore, you must be able to forecast your cash needs accurately. Otherwise, you could end up with less (or more) money than you needed.

The fixed value of an ACH loan is not a problem if you need the funds to purchase equipment, since the cost of machinery is known ahead of time. However, it can be a problem if you need the funds to pay operating expenses, which can change with little notice (e.g., if you get an unexpected, large order).

#2 They are hard to modify and increase

ACH loans can be inflexible and are hard to modify. This inflexibility can be a problem if you are in the middle paying a loan and you need to increase your loan amount. Your lender won’t be able to provide additional funding until you pay off the previous loan. However, lenders can make exceptions in certain circumstances. Discuss this matter with your lender before getting the loan.

#3 They are comparatively expensive

ACH loans, like most alternative solutions, are not cheap. The solution is more expensive than conventional loans and lines of credit. It’s generally considered more expensive than other alternative solutions as well.

#4 You must be able to provide accurate financials

The lender bases its financing decision on a few criteria, including your corporate financial statements and your bank account track record. Actually, your bank account track record is one of the most important factors considered for this type of financing. The lender reviews past minimum balances and deposits to see if they can finance your company. This scrutiny can pose a problem for companies whose banking track records are far from perfect.

Disadvantages of invoice factoring

As you can imagine, factoring solutions also have some disadvantages. You can find a complete list in our previous post,”Disadvantages of Invoice Factoring.” Here are some of the most important disadvantages of invoice factoring.

#1 It solves only one problem

Factoring your invoices helps you only if you have cash flow problems because clients are paying receivables in 30 to 90 days. Factoring can help you pay operating expenses. However, it won’t be of much help if you need money to buy new equipment, make large purchases, or handle a single, large order.

#2 You must have good commercial clients

To qualify for invoice factoring, you must work with commercial clients who have good credit. This solution won’t work well for companies that work with smaller businesses that don’t have a full credit profile. It also won’t work if you sell only to retail clients.

#3 It’s comparatively expensive

Factoring invoices is more expensive than conventional financing. It’s considered cheaper than ACH loans, though this assessment varies based on how the comparison is made and on individual circumstances. In general, factoring rates range from 1.15% – 3.5% per 30 days based on the volume of your account and the credit profile of your clients.

Which solution is better?

The better solution depends on your type of business, your current situation, and your future needs. Factoring helps you if you have good commercial clients, growing sales, and need funds to operate the business. An ACH loan is a better option if you have minor cash flow problems, run a stable business, or need funds to buy equipment or handle one big order.

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