The Difference Between Debt Collection and Invoice Factoring

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If your business is dealing with a cash flow shortfall, unlocking working capital trapped in your accounts receivable is a great place to start. Both invoice factoring and debt collection fall within this bracket, but they address different things and work in distinct ways. Even though invoice factoring is sometimes referred to as debt factoring or debtor factoring, the process is different from debt collection. We’ll break down the similarities and differences between them below, so it’s easier to see which model is best for your business now.

Similarities Between Factoring Companies & Collections Agencies

Factoring and collections companies operate remarkably similarly on the surface since they’re both dealing with outstanding receivables and can help you get the cash you’re owed with an invoice collection service. There are additional parallels beyond this too.

Your Invoices May Be Purchased

Debt collectors structure their contracts in a variety of ways. In some cases, the debt collection agency simply goes to work on your behalf. However, it’s quite common for agencies to purchase your invoices too. In this respect, a factoring company isn’t so different. You’re selling your unpaid invoices to a third party too.

Your Business and Personal Credit Score Are Not Important

Regardless of whether you’re working with a debt collection agency or factoring company, your creditworthiness won’t be a major concern. This makes both ideal choices for startups and small or midsize companies that haven’t built a solid financial footprint yet.

They Take Care of Your Accounts Receivable

A debt collector and a factor will both work to ensure invoices get paid. They may also communicate with the customer and offer various payment options to make resolving the debt more manageable.

The Difference Between Factoring and Debt Collection

Once you get past these surface-level similarities, factoring and debt collection are wholly dissimilar concepts, though.

Factoring Doesn’t Cover Old Debt

One of the most significant differences between the two is when the collection process kicks off. Debt collectors focus on outstanding invoices or older debts—usually those that a business has already tried to collect on without success. It’s common for a debt collection agency to take over an account after 90 days, though some companies don’t enlist the help of a debt collector until the account is six or more months overdue.

Conversely, factoring is more of a cash flow accelerant, designed to speed up and advance rate of payment on newly generated invoices. Rather than waiting until an invoice goes unpaid for an extended period, you’d generally submit your invoice to a factoring company for reimbursement as soon as work is complete or goods are delivered to a customer.

Factoring Gives You Cash Up Front

Debt collection companies may agree to collect on an invoice, but they don’t give anything out until they’ve successfully collected payment from the debtor.

Factoring companies will advance most of an invoice’s value up front. Depending on the nature of your agreement, it’s usually 70 to 90 percent. Once the invoice is paid by your customer, the factoring company sends you the remaining balance minus a nominal discount. In this sense, it’s more like receivable financing. This all being to help your business meet its cash needs and not have to deal with invoicing problems amongst customers.

Factoring is Less Expensive Than Collections

Debt collection agencies tend to have low collection rates because they’re trying to collect on old balances that a business has already tried to collect. It’s a difficult job, and those who recover anything more than 35 percent of balances tend to brag about it. This, paired with the fact that most don’t get paid anything unless they collect, results in an exceptionally high collection fee expense. Expect the debt collector to keep at least 25 to 30 percent of the proceeds, with some scraping 50 percent or more off the top.

On the other hand, factoring companies aren’t dealing with old balances. Moreover, they typically help vet your customers through credit checks and may help you avoid customers with bad debt and verify that you have creditworthy customers before agreeing to factor. This greatly reduces the risk of delinquency and non-payment, so they can charge considerably less. Your factoring fee will vary based on a variety of considerations, such as volume and invoice values, but will generally range from three to seven percent of the invoiced amount. The cost of factoring is much less.

Relationships Are Affected in Different Ways

If your customers aren’t paying their invoices, you may have no choice but to call in additional help. Debt collectors are often seen as a strongarm. They may send a series of letters, make lots of phone calls, or threaten legal action. Many employ lawyers or sound like law firms in an effort to encourage faster invoice payments. In these cases, even relationships with clients that were once strong may quickly sour.

Factoring is a whole different ballgame. There are no strongarm tactics. Factoring companies stay in business by earning your repeat business. That means they need to be dedicated to serving your customers every bit as much as you are. You may find that they go above and beyond to make the payment process easy for customers by giving them online payment options and other perks small businesses sometimes can’t offer on their own.

Invoice Factoring or Debt Collections Agencies: Which is Better?

There isn’t a “better” when it comes to choosing between factoring or collections. They’re distinct, and each will benefit you in a different way. If your business needs to boost cash flow and you generate B2B invoices, factoring is your best bet. You’ll pay considerably less, get your cash faster, and will maintain better relationships with your customers. Plus, you’ll likely have fewer late payments on invoices and will likely reduce non-payment too, which means you’ll have less need for debt collection agencies.

However, if your balances are old and you’re not making headway with the customers who owe, a debt collector is best. Even if the agency will charge a small sum for collecting, anything you receive is better than the alternative of nothing.

Accelerate Payment on Your Current Invoices

With approvals in as little as eight hours, rates as low as 0.25 percent, and cash advances up to 100 percent, Viva is a factoring company that will go above and beyond for both you and your clients. If you think factoring is the best solution for your business, get started with a free rate quote.

Sarah Williams

About Sarah Williams

Sarah Williams, Vice President of Sales at Viva Capital, is responsible for strategy and direction of sales and marketing departments. Over 15 years of experience in factoring and specialty finance. Now a veteran, she has served in the United States Army for eight years.

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