Invoice factoring vs invoice discounting: what's the difference?

Invoice factoring and invoice discounting are both types of invoice finance that let a business borrow against its unpaid invoices. The main difference is who collects the money from your customers and whether your customers know.

When a customer takes 30, 60 or 90 days to pay, you're effectively lending them money, and invoice finance exists to close that gap. But the names, invoice finance, factoring (sometimes called debt factoring) and invoice discounting, are used loosely, which causes confusion. Here is how invoice factoring and invoice discounting compare and how they fit together.

The basic idea

You issue an invoice to a business customer. Instead of waiting for them to pay, a finance provider advances you a large share of its value, often within a few days. When your customer pays, the provider releases the rest, less its charges. Our guide to customers paying late covers the problem this solves.

Invoice factoring vs invoice discounting at a glance

The details differ between providers, so check the terms of any arrangement.

Invoice finance: the umbrella term

"Invoice finance" describes any arrangement where the unpaid invoices are what unlocks the funding. There are a few ways to set it up.

Factoring

With factoring, the provider takes over your sales ledger. In practice, that usually means:

• The provider chases your customers for payment.
• Your customers know, because they pay the provider directly.
• You get credit control support, which can suit a business without a finance team.

It can suit a business where credit control takes up a lot of time, though some owners prefer to manage customer relationships themselves.

Invoice discounting

With invoice discounting, you stay in charge of collecting payments and the arrangement is often confidential, so customers pay you as normal. It tends to suit larger or more established businesses that already have good credit control in place. Providers may have minimum turnover requirements.

Selective (spot) invoice finance

Some providers let you finance individual invoices instead of the whole ledger. That can suit a business that only occasionally needs the cash, such as after one large order.

Recourse and non-recourse

This is one of the most important parts of the terms:

• Recourse: if your customer doesn't pay, you are still responsible for repaying the advance.
• Non-recourse: the provider takes on some of the risk of non-payment. It usually costs more, and it generally only covers specific situations, such as a customer's insolvency, so read the conditions carefully.

What it costs

Charges often come in two parts:

• A service fee, usually a percentage of the invoice value, for managing the account.
• A discount or interest charge for the time the money is advanced.

Because there are several moving parts, it helps to compare the total cost over a typical month and to ask about minimum fees, set-up charges, exit fees and how long the contract runs. Any fee should be clear before you go ahead.

Things to look at

• Your customers. Providers look closely at who owes you the money. Strong, reliable customers help.
• Concentration. If most of your invoices come from one customer, the provider may limit what it will advance.
• Contract length. Some arrangements run for a fixed term with notice periods.
• Impact on relationships. With factoring, the provider contacts your customers, so it's worth thinking about how that sits with the business.

Invoice finance usually suits businesses that invoice other businesses on credit terms. If you're paid at the till, other options such as a merchant cash advance may be more relevant. Our guide to getting a business loan in the UK compares the choices.

Related guides

• Invoice factoring costs and fees explains the charges with an illustrative example.
• Invoice finance for construction covers applications for payment, retentions and CIS.

Getting help comparing

We're a commercial finance broker, not a lender. We introduce your business to the lenders on our panel, including invoice finance providers, so you can see your options without approaching each one yourself. It's free to check, and any fee is confirmed before you proceed. All funding is subject to eligibility and credit assessment.

You can check your options in a few minutes, with no obligation.