What is Factoring? What is the procedure for factoring?
Factoring is a process whereby a business (Seller) sells its accounts receivables to a third party (called factor) at a discount in exchange of money to finance its running business. Factoring is not a bank loan, it is the purchase of accounts receivables. Three parties are directly involved in factoring namely Seller, who sells the receivable, buyer and factor. Following is the procedure for factoring:
- First a careful evaluation of customers is done and then a credit limit is set on the customers after which the factoring firm enters into the agreement with the selling company.
- Selling company through its sales invoice gives an indication to its customers that the amount is being factored with the factor and now the customers are supposed to make the payment directly to the factor on the due date.
- After keeping a stipulated margin factor makes the prepayment to the selling company.
- On the due date when the customers make the payment, the factoring firms deduct its fees or other charges from it as agreed upon and the amount already advanced to the selling company and gives the balance amount to the selling company.
What are the different types of factoring?
Factoring can be classified in the following ways:
Without Recourses Factoring:
This type of factoring is also known as full factoring. In without recourse factoring factor bears all the risks of non-payment by the customer. The factor cannot recover any amount from the selling company. Thus, without recourse factoring results into the outright buying of selling company’s receivables by the factor.
With Recourses Factoring:
In this type of factoring the selling company bears the risks of non-payment by the customer. The factor is only entitles to recover the funds advanced by him from the selling company.