How Does Invoice Factoring Work and Are Factoring Financial Services Right for Your Business? Part 1 of 2

June 6, 2012

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In part one of this two part article, we will cover the basics of how factoring works. If you have questions about the terms used herein you can refer to Factoring Terminology. Actual rates will vary based upon the nature of the advance size and the customers. For actual rates please submit a Request for a Quote.

  1. Factor will complete its due diligence on the client and the customers.
  2. Factor and the client will enter into a Factoring and Security Agreement, as well as some additional documentation.
  3. Factor will notify the customers of the change of address for remittance of payments.
  4. The client will submit an advance request for $10,000 to MP Star along with the invoices, the supporting documentation and assignment.
  5. The factor will verify the advance to ensure that the invoices are complete and that the accounts receivable are due and payable.
  6. Factor will multiply the advance request of $10,000 times the advance rate of 80% or $8,000 and subtract the initial fee of 3.5% or $350 for a total funding to the client of $7,650.
  7. The invoices are then mailed to the customers.
  8. When the customer sends payment to the lockbox in 30 days.
  9. The factor will take from the payment the amount advanced and the initial fee. The factor would then remit to the client the balance left over when the reserve settlement is released.

In this example using an advance rate of 80% and an initial fee of 3.5% for an initial fee period of thirty days the factor will advance 80% of the $10,000 advance request or $8,000 less the initial fee of 3.5% or $350 for a total advance of $7,650 to the client.

In this case that would be $10,000 — $7,650 — $350 = $2,000.

To extent that some invoices are not paid in thirty days, then additional late fees are charged on only the invoices unpaid for each late fee period that an invoice is outstanding. You can see an example of the same $10,000 invoice being paid beyond 30 days in How Does Factoring Work Part 2.

Click here to see an example of an Invoice Paid in 30 Days

Click here to see an example of an Invoice Paid Sometime Beyond 30 Days

MP - How Does Factoring Work - Infographic #1

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Gage Price
Gage is the president of MP Star Financial, founding the company in 1995 to provide invoice factoring and other asset-based lending services, focusing on freeing up cash flow for small to medium-sized businesses. Gage earned his MBA at The Stern School of Business in New York City.