If you are self-employed, you can advance the collection of your invoices
Liquidity management is vital for the survival of any business. The longer collection periods that some clients may impose and delays due to non-payment become a major problem for SMEs and the self-employed, who must seek financing to cover the mismatches there may be between the average period of payment to suppliers and the average period of collection from customers.
One way to solve this problem is to advance the collection of invoices issued. If promissory notes are requested from customers, the issuer of the invoice can take them to his/her financial institution for discounting, thus receiving the amount in advance, minus the interest that the bank keeps as remuneration for this advance.
The evolution of this traditional system is factoring , a financing instrument whereby the issuer of invoices pending collection assigns them to a financial institution (called a factor) to manage their collection and advance the amount, minus a fee, which is the cost of this type of financing.
There are two types of factoring.
- Without recourse: this is the most common type and the factor assumes the risk of a possible subsequent non-payment by the debtor. For the assignor, it is a "firm" collection.
- With recourse: the factor does not assume the risk of non-payment, and the assignor of the invoices is liable in this case.
In practice, it is instrumented by means of an agreement which establishes the credit limit, i.e. the total amount that can be advanced, and which is renewed as invoices are collected when they fall due. It is also common to specify the customers whose invoices may be advanced, as the financial institution will analyse the creditworthiness of the debtors before making the advance payment to the assignor. Logically, not all debtors will be accepted, the best candidates being large companies and the public administration. For others, the aforementioned promissory note discounting option may be more appropriate.