When a construction or manufacturing business needs working capital, it may consider the standard option of a bank line of credit. However, there are other choices available, such as invoice factoring (also known as accounts receivable factoring), which can provide a fast and flexible way to access working capital. To make the best decision for your company, it’s important to compare these two options: invoice factoring vs. bank loans, head to head.
The Advantages of Factoring Compared to Bank Loans
Here is a quick look at the differences between invoice factoring and lines-of-credit/traditional bank loans:
| Aspect | Banks | Factoring Companies |
|---|---|---|
| Application Ease |  Stringent |  Easy, minimal paperwork |
| Speed of Application & Funding | Slow approval. | Fast. Account setup: a few days. Funding: as quick as 48 hours |
| Viability | Unlikely, due to seasonal projects, especially if there isn’t an existing, long-term relationship | Works well with construction |
| Funding Amounts |  Finite limits or caps | Based on invoice amount so hypothetically unlimited |
| Fees and Rates | Lower than factoring | Higher than loans |
| Credit Requirements | Very strict | Primarily based on your client’s credit |
| Credit Score | Can improve (or hurt) credit score | No impact on credit score |
| Collateral Requirements | Requires collateral or personal guarantees | Invoices act as collateral |
| Client Relationship | Clients unaware of the loan | Factoring company communicates with your client — advance notice is advised. |
| Additional Services | Limited to financial | Additional helpful services like lien compliance or risk management |
Both bank loans and factoring have their place. But in some cases, factoring is the right option. Let’s discuss some the top reasons for these benefits:
Account Set-Up Speed
The process for setting up an account has many key differences. With invoice factoring it only takes a few days for the factoring company to create your account. After approval, you can expect to get cash in about 24 hours. The quick setup also includes only minimal paperwork and documentation because the required paperwork needed is information on your customers. Invoice factoring relies on their creditworthiness, not yours, as the bank would require. If you are going through a bank, it can take months to get set up with an account before you get access to the funds.
A bank will also ask for a broad range of paperwork and financial statements – not only about your business but also about you, the business owner. These might include but not be limited to the operating history of the business, business plans, and the business owner’s credit scores.
Traditional Bank Loan Amounts Compared to Factoring Amounts
Invoice factoring is very flexible when considering the account limit since the limit is based on your accounts receivables. This means that your limit can grow with the growth of your business. With a traditional bank loan you are locked into a certain limit that was pre-established and in order to change the amount you have to go through the setup process again.
>> RELATED ARTICLE: The Process of Getting a Bank Loan for a Construction Business
Invoice Factoring Fees vs. Bank Interest Rates
The main thing most business owners and CFOs focus on when comparing invoice factoring to a bank loan is the factoring fee compared to the interest rate you will pay a bank. And yes, at first glance the factoring fee is higher; however, there are added services that many invoice factoring companies provide that a bank does not that can offset or even make factoring less expensive.
Example:
If a business uses invoice factoring for $100,000 worth of accounts receivables a month with a fee of 2% they will pay $2,000 per month. This means for the year they will pay $24,000 (12 months x $2,000) in factoring fees and will receive $1,176,000 in cash flow. With a bank loan, they could be looking at a one-time loan of $100,000 with a 12% APR. The business could make a minimum payment of $1,000 per month and will have paid $12,000 in interest for the year and still owe the $100,000 principal on the loan.
Invoice factoring companies will also offer many services that are included with their fee that will help you reduce your overhead expenses. These services can include free background checks on your customers, invoice ledgering and accounting, quick and efficient collections, and other back office services.
Additionally, some invoice factoring companies offer no monthly minimums so your business only pays fees on the funds you need each month helping you save money. Whereas a bank will lock you into a line of credit and you must pay the fee on that line regardless of whether you need the funds that month or not.
Which is Best?
Both these options have their places. If you have questions about which is right for you, factoring or bank loans, please give us a call at 865-670-2345 or use this form to set up a call. We are glad to explain your options. If you are convinced, let’s talk!
>> RELATED ARTICLE: Invoice Factoring vs Spot Factoring
Back to blog
