Payroll financing is a solution that allows your company to finance invoices and assets so that it can make payroll. It usually refers to a common use of invoice factoring, though it can also refer to other solutions.
In this article, we cover:
- Understanding the problem
- Credit terms kill cash flow
- How does payroll funding work?
- How much does it cost?
- Advantages and disadvantages
- Available industries
1. Do you have this problem?
Making payroll is one of the biggest responsibilities for a business owner. Your employees depend on you just as much as your business depends on them. As their boss, you want to make sure they are always paid on time. The success of your business depends on it.
But making payroll can be difficult, especially for small and growing companies. This is because they often run into cash flow problems. Small companies can experience cash flow problems for many reasons. However, the most common reason is having to offer net-30 to net-60 day payment terms to clients, even when you can’t afford to.
2. Net-30-day credit terms kill cash flow
Large and midsize companies demand payment terms as a condition of buying from you. They do this because it improves their cash flow and doesn’t cost them anything. However, slow payments cost you quite a bit. While you wait to get paid, you have to pay your employees from your cash reserves. And if your cash reserves run low, you get into trouble.
A simple way to solve this problem is to offer early payment discounts to your clients. Basically, you give clients a 2% discount if they pay invoices in 10 days or less. Early payment discounts can work very well but have some limitations. Your clients have to agree to them, and you are left in a vulnerable position. Your clients can stop paying quickly at any time.
In most cases, a better solution is to fund your payroll using an invoice factoring program.
3. How does payroll funding work?
Using invoice factoring to finance payroll is relatively simple. You agree to sell your accounts receivable to the payroll funding company, which buys them in two installment payments.
The first installment is called the advance and covers 80% to 95% (varies by industry) of your receivables. The funds are usually deposited into your bank account within a business day. The advance provides you the immediate funds to pay employees and other company expenses.
The second installment is deposited as soon as your customer pays the invoice in full. At that time, the payroll finance company rebates the remaining funds, less a financing fee.
Learn more by reading “What is factoring?”
4. How much does payroll financing cost?
The cost of using a payroll financing program is based on the amount of funds you need, the commercial credit quality of your clients, and the transaction’s general risk. Costs typically range from 1.15% to 3.5% per 30 days. Larger companies can get even lower prices. Learn more about typical factoring rates.
Qualifying to use payroll financing is easier than qualifying for other solutions. Payroll funding is open to small businesses, growing companies, and companies that have financial challenges. In general, to qualify, your company must have:
- Creditworthy commercial or government clients.
- No liens against accounts receivable
- Good invoicing practices
Most financing plans can be deployed in a week or less. Once deployed, you can use it to get your receivables financed as required.
6. Advantages and disadvantages
Using an invoice factoring plan to finance payroll has several advantages. Here are some of the most important ones:
- Get immediate funds to meet payroll
- Easily offer 30-day terms to clients
- Quick deployment
- Available to new and small companies
- Can be used as a short-term solution
- Easier to get than a business loan
- The financing line increases as your business grows
However, factoring is not a perfect solution and has some disadvantages. The three most important disadvantages are:
- It’s not the cheapest option
- Works best if your gross margins are over 15%
- It’s not entirely transparent to your customers
7. Who can benefit from this solution?
Payroll financing helps companies that depend heavily on payroll. However, factoring can help any company that has to wait up to 90 days for commercial/government clients to pay. Common industries include:
- Business service providers
- Oil and gas
- And others
For most of these companies, factoring is the right solution for payroll financing. It is specifically designed to fix cash flow problems that originate from slow-paying clients.
Do you need payroll funding?
We are a leading payroll financing company and can provide you with a competitive proposal. For a quote, fill out this form or call (877) 300 3258.