Invoice Factoring — What It Actually Is, and What It Is Not
If your accountant has mentioned invoice factoring and it put you off, you are not alone. The word ‘factoring’ gets used loosely — sometimes as a catch-all for all types of invoice finance — and the version most business owners hear about first is not always an accurate picture of how it works in practice.
There are three distinct products in the invoice finance market: factoring, discounting, and selective invoice finance. They are meaningfully different. They suit different businesses. And the choice between them is not as complicated as it is often made to sound.
This page sets out what each one is, when each one is the right tool, the things that people get wrong about factoring specifically, and what you actually need to know before making a decision.
Plain English: Invoice finance in any form works on one basic principle — you have raised an invoice and the cash is sitting with your customer rather than in your account. The lender advances you the majority of that invoice value immediately. The difference between factoring, discounting, and selective is about who controls the credit control process, whether your customers know about the arrangement, and how much flexibility you have over which invoices are included.
The Three Products — Explained Clearly
Invoice Factoring
With invoice factoring, you raise an invoice as normal and notify your customer. You then submit that invoice to the factoring company, who advances you typically 80–90% of the face value within 24–48 hours. The factoring company then takes over the credit control process — they contact your customer, manage the payment relationship, and collect the outstanding amount on your behalf. When the customer pays, the remaining balance is released to you minus the facility fees.
The key distinction: the credit control is outsourced to the funder. Your customers are aware that a third party is managing collections. This is a disclosed arrangement.
- Advance rate: typically 80–90% of invoice value
- Credit control: handled by the factoring company
- Confidentiality: disclosed — your customers know
- Best for: businesses that want to outsource credit control, or whose internal processes for chasing debt are not strong
- Bad debt protection available on most facilities (see recourse vs non-recourse below)
Invoice Discounting
Invoice discounting works on the same financial principle — you raise an invoice, the lender advances the majority of its value immediately. But the credit control stays entirely with you. You chase your own customers, collect payment into your own bank account, and reconcile back to the lender. The arrangement is confidential — your customers have no visibility of it and no contact from the lender.
This is the product most established businesses use when they want the cashflow benefit of invoice finance without any change to how they interact with their customers.
- Advance rate: typically 85–90% of invoice value
- Credit control: retained by you
- Confidentiality: fully confidential — customers do not know
- Best for: businesses with strong internal credit control, good customer relationships, and a well-managed sales ledger
- Usually requires a minimum annual turnover threshold and an established trading history
Selective Invoice Finance
Selective invoice finance — sometimes called spot factoring or single invoice finance — gives you the flexibility to fund individual invoices rather than your whole ledger. You choose which invoices to submit and when. There is no long-term commitment and no obligation to include every invoice you raise.
The trade-off for this flexibility is cost. Selective facilities are typically more expensive on a per-invoice basis than whole-ledger factoring or discounting. But for businesses that only need occasional funding, or want to unlock a specific large invoice without committing to an ongoing facility, it is a practical option.
- Advance rate: typically 80–85% of invoice value
- Flexibility: fund specific invoices only, no whole-ledger commitment
- Confidentiality: depends on the provider — some are disclosed, some undisclosed
- Best for: businesses with occasional large invoices, project-based businesses, or those not ready for a full facility
- Higher cost per invoice than a whole-ledger facility
Factoring vs Discounting vs Selective — At a Glance
| Invoice Factoring | Invoice Discounting | Selective Invoice Finance | |
|---|---|---|---|
| Who does credit control? | The funder | You | You (usually) |
| Do your customers know? | Yes - disclosed | No - confidential | Depends on provider |
| Whole ledger or choose? | Whole ledger | Whole ledger | You choose |
| Typical advance rate | 80-90% | 85-90% | 80-85% |
| Relative cost | Moderate | Moderate | Higher per invoice |
| Bad debt protection | Available | Available | Limited |
| Suits | Growing businesses, those who want credit control handled | Established businesses with strong internal credit control | Project-based or occasional funding needs |
What Accountants Get Wrong — and Why It Matters
This is worth addressing directly, because it genuinely puts business owners off a product that could transform their cashflow.
The most common version of the story goes like this: your accountant mentions ‘factoring’, says it means a finance company will be chasing your customers for payment, and suggests it could damage your customer relationships. You decide not to pursue it. Your cashflow problem continues.
There are three things wrong with that picture.
First: ‘factoring’ is not a synonym for all invoice finance
Invoice discounting — which is fully confidential — is used by thousands of UK businesses without a single customer ever knowing. There is no third-party contact, no change to how your payment process looks, and no indication on any correspondence that an external funder is involved. If confidentiality is the concern, discounting is the answer — and many accountants conflate the two products.
Second: factoring’s credit control function is often a benefit, not a problem
For businesses that struggle to chase overdue invoices — whether because the owner is uncomfortable doing it, the team does not have the resource, or the customers are large corporates with complex accounts payable processes — having a professional credit control operation handling collections is a genuine advantage.
A good factoring company does not call your customers aggressively. They manage payment professionally, as a specialist function. Many businesses find their debtor days reduce significantly once a factoring facility is in place, not because of pressure but because of consistent, professional process.
Third: the decision should be based on what your business actually needs
The right product is the one that fits your situation — your turnover, your customer base, your internal capabilities, your growth plans. Not the one your accountant heard about fifteen years ago and has been steering clients away from ever since.
If you have been told that invoice finance will damage your customer relationships, ask which product specifically was being discussed and whether invoice discounting was considered. In most cases it was not. The advice was based on an incomplete picture.
Recourse vs Non-Recourse — What Happens if a Customer Does Not Pay?
This is one of the most important questions in any invoice finance discussion and one that is rarely explained clearly upfront.
Recourse factoring
With a recourse facility, if your customer fails to pay the invoice — because they go insolvent, dispute the debt, or simply do not pay within the agreed period — the risk comes back to you. The funder will recover the advance they made against that invoice from your account or from your available facility. You absorb the bad debt.
Recourse facilities are more common and generally cheaper. They suit businesses whose customers are well-established, financially stable, and whose invoice quality is high.
Non-recourse factoring
With a non-recourse facility — also called bad debt protection or credit insurance — the funder takes on the risk of customer non-payment. If an approved customer fails to pay due to insolvency, the funder absorbs the loss rather than recovering it from you.
Non-recourse facilities cost more because the funder is carrying additional risk. The protection is also not unlimited — there are credit limits per customer and conditions that must be met. Disputed invoices, fraud, or non-payment for reasons other than insolvency are typically excluded.
For businesses with exposure to a small number of large customers — where one insolvency could be catastrophic — non-recourse is often worth the additional cost. For businesses with a broad, diverse customer base, recourse is usually adequate.
What Lenders Look For in an Invoice Finance Application
Invoice finance is assessed differently to a term loan. The primary security is your debtor book — the quality and collectability of your invoices. Lenders focus on the following.
The quality of your invoices
- Are they raised to businesses (B2B only — most invoice finance is not available for consumer debt)
- Are the invoices for completed goods or services — not future or retainer-based income
- Are your credit terms clear and consistent — typically 30, 60, or 90 days
- Are there disputes, credit notes, or contra arrangements that complicate the ledger
Customer concentration
If 80% of your turnover comes from one customer, lenders will be cautious. That level of concentration means the facility is effectively dependent on one relationship. Most lenders apply concentration limits — typically no more than 25–33% of the ledger from a single customer — though this varies.
Debtor quality
The credit profile of your customers matters. Lenders assess whether the businesses you are invoicing are creditworthy. An invoice raised to a large, established company carries more weight than one raised to a recently incorporated business with no credit history. This does not prevent the invoice from being funded, but it affects how the lender prices and structures the facility.
Your trading history
Unlike some other facilities, invoice finance is accessible to relatively young businesses — because the security is the invoice, not the business’s trading history. However, lenders do want to see that the invoices are genuine, that the underlying relationships are real, and that there is no fraud risk in the ledger. Start-ups with their first few clients and clean documentation can often access factoring when other forms of lending are not yet available.
When Invoice Finance Is Not the Right Answer
Invoice finance is not a universal solution. There are situations where it does not work well, and being clear about those upfront saves time on both sides.
- Consumer-facing businesses: invoice finance is a B2B product. If you invoice individuals rather than businesses, most facilities are not available.
- Retention-heavy sectors: construction businesses with significant retention clauses face complications — the retained portion cannot usually be funded until released, which limits the facility’s effectiveness.
- Businesses with high dispute rates: if a significant proportion of invoices are regularly disputed, lenders will either decline or restrict the facility heavily. Disputes undermine the quality of the security.
- Retainer or subscription income: invoices raised for ongoing retainer arrangements or recurring subscriptions are often declined — lenders want invoices for completed, delivered work.
- Very small ledgers: a business with annual turnover below £100,000 will find the options narrow. Some selective or fintech-based providers will consider smaller volumes, but the economics of a whole-ledger facility become tight below a certain threshold.
- Businesses with poor internal records: if your sales ledger is not well-maintained — mismatched invoices, missing purchase orders, unclear credit terms — lenders will struggle to get comfortable. Tidying the ledger before applying is worth doing.
What Does Invoice Finance Actually Cost?
Invoice finance fees typically have two components, though the exact structure varies by provider.
Service charge
A percentage of the gross invoice value, charged for managing the facility. For factoring this covers the credit control function as well. Typically 0.5–2.5% of turnover per annum depending on the size of the facility and the complexity of the ledger. Larger facilities attract lower percentage rates.
Discount charge
Interest charged on the funds advanced, calculated daily from the point of drawdown to the point of repayment. Typically base rate plus 1.5–3.5% per annum, applied to the actual funds drawn. This is the equivalent of an overdraft interest charge.
Additional costs to be aware of
- Bad debt protection premium (non-recourse only): typically 0.2–0.5% of insured turnover
- Audit fees: lenders periodically audit the ledger — some charge for this, some do not
- Minimum fee clauses: some facilities have a minimum monthly charge regardless of usage — important to understand if your invoice volumes fluctuate
- Exit fees: particularly on longer minimum-term facilities — always check the notice period and early termination costs before signing
The total cost of an invoice finance facility should be compared against the cost of not having it — which for a business with chronic cashflow pressure is not zero. Slow debtors have a real cost: stress, missed supplier discounts, inability to take on work, and lost growth.
Frequently Asked Questions
Only if you use factoring. Invoice discounting is fully confidential — your customers have no visibility of the arrangement and all payment correspondence remains under your name. If confidentiality is important to you, discounting or confidential invoice discounting (CID) is the right product. Factoring is disclosed by design — the funder manages collections on your behalf and your customers are aware of the arrangement.