Invoice Factoring Requirements

Factoring plans can provide many of the financing benefits associated with a line of credit. However, they are much easier to qualify for than conventional financing.

Most factoring companies have fairly simple requirements to qualify. The following is a list of the main requirements to qualify for invoice factoring. By the way, to learn more about factoring, read this article.

1) You must operate a business

Factoring can provide financing to businesses only. Some factoring companies can operate with sole proprietorships and partnerships. However, most factors prefer that your business be formalized through a corporate structure such as a Corporation (Inc.), Limited Liability Company (LLC), or similar alternative.

2) Your business must have commercial or government clients

Factoring plans provide financing by allowing you to sell your accounts receivable to a factoring company. They can buy your invoices only if your clients are commercial companies or government entities. Unfortunately, factoring companies cannot buy invoices due from retail customers.

3) Your client’s commercial credit must be good

The most important benefit of factoring is that it provides funding based on the credit quality of your invoices, rather than the credit of your company. Factors will only finance high-quality invoices that are very likely to be paid on their due date. Factoring companies determine the credit quality of your invoices by checking the commercial credit of your clients.

4) Your profit margins must be above 10% to 15% (varies)

Due to its cost, factoring works best if your profit margins are reasonably high. For larger companies, profit margins of 10% to 15% work well. For smaller companies, a margin of 15% or more works best.

5) Your invoices must be free of liens or encumbrances

You can only finance invoices that have not been pledged as collateral to other institutions, such as banks. Keep in mind that it’s common for many financing institutions to file an “all assets” lien when providing any type of funding. These liens encumber your invoices.

If your accounts receivable is pledged as collateral, the other finance company needs to agree to a subordination before the invoices can be factored.

Tax liens or legal judgments (judgement liens) can also encumber accounts receivable. Such liens need to be resolved before your invoices can be funded (see the next section).

6) If you have tax problems or a tax lien, you must have a payment plan

Factoring companies can finance invoices that are encumbered by a tax lien (usually an IRS lien) under certain circumstances:

  • You must have a payment plan
  • The taxing authority must be willing to subordinate its position on the receivables

Alternatively, your company can just pay the liability, which removes the lien.

7) You should not have an open bankruptcy

Although it is possible to provide factoring to companies undergoing a chapter 11 bankruptcy, it’s complex and often expensive. However, factoring can be effective for debtor-in-possession financing in some circumstances.

Some factoring companies avoid financing companies whose owners have a open personal bankruptcy.

8) Your personal background must show you have good character

One of the most important requirements to qualify for any type of financing, whether factoring or something else, is to show that you have good character. Factoring companies determine character by checking the background of all applicants to look for criminal records and similar issues.

One last point

Note that each factoring company is different and has its own specific requirements. However, this guide should give you a good idea of what you need to have in place to qualify for an invoice factoring line. If you are looking for factoring, here are some useful application tips.

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