In general, Canadian factoring companies offer two different types of factoring: recourse and non-recourse factoring. This article helps you understand how each of these programs work.
How does factoring work?
Most commercial sales are done on net-30 to net-60 day terms. However, many small businesses cannot afford to wait that long for payment. Instead, they need payment sooner so that they can pay their own expenses.
Factoring allows the company to finance those slow-paying invoices and get funds quickly. This accelerated payment improves their cash flow and provides more predictable revenues. For a more detailed explanation of how factoring works, read “What is Factoring?”
In a recourse factoring transaction, the client retains the payment responsibility if an invoice is not paid for whatever reason. Therefore, the client must repay the factoring company if an invoice is not paid. Recourse factoring is the most common type of factoring used in Canada.
Although the payment responsibility remains with the client, it is in the best interest of the factor that recourse is not used. Consequently, factors are still careful in the due diligence even if the agreement allows for recourse.
Non-recourse transactions are slightly different. In a non-recourse factoring transaction, the client does not need to repay the factoring company if the invoice is not paid due to an insolvency. Invoices that are not paid for other reasons, such as disputes, still need to be paid back to the factoring company. This last point is very important and is often a source of confusion.
Different companies offer non-recourse programs in different ways. If you are considering this type of financing, review the agreement carefully and enlist the help of an attorney to ensure you understand the protections that you are getting.
Which type of factoring is better?
Unfortunately, there is no easy answer. The better option depends on your risk tolerance and your specific situation. Keep in mind that factoring companies are very good at determining bankruptcy risk well before it happens. It’s unlikely that they would finance an invoice that has this risk, regardless of recourse. Therefore, the protections offered by a non-recourse plan are probably limited.
A non-recourse factoring plan can provide some protection against unexpected bankruptcies. These situations occur from time to time and can have serious effects.
Get more information
Are you looking for a factoring quote? We are a leading factoring provider and can provide competitive terms. For more information, call us toll-free at (877) 300 3258.