Invoice discounting is an invoice finance facility used by businesses to leverage the value of their sales ledger and get an advance on outstanding invoices. This invoice discounting facility allows businesses to increase cash flow and access up to 100% of their receivables by using their unpaid invoices as collateral.
Invoice discounting is the most simple way to benefit from invoice financing because you remain in charge of collecting the payment from your clients whilst the lender simply advances the cash. Businesses receive the cash they’re owed in exchange for a service and borrowing fee, after that, your company is in charge of credit control and payroll.
Some businesses are forced to wait up to 30, 60, or even 90 days just to receive payments from their clients. Invoice discounting is an effective way to access the money you’re owed, as soon as possible, and avoid obtrusive cash flow gaps on your balance sheet.
How does it work?
You carry on with business as usual and once you reach an agreement with your customer, you pass on your receivables to the invoice finance company. You are advanced up to 100% of your invoice value as soon as your timesheet is cleared and your invoice is raised.
Once your invoice has been cleared, you will have access to the funds you are owed in a matter of 24 hours. You’re then in charge of chasing after your clients and collecting the payment for outstanding invoices.
Since you’re in charge of credit collection, the longer it takes for your client to pay, the higher the borrowing fee will be. However, invoice discounting rates are typically lower than invoice factoring rates because you take on a more hands-on approach.
Invoice discounting vs invoice factoring
Essentially, invoice discounting is the simplest type of invoice finance. You use your outstanding invoices as leverage to receive an advance on the cash you’re owed and then you collect the payment from any outstanding debtors.
Invoice factoring is similar because you also use your unpaid invoices as collateral to receive an instant cash injection. However, the difference is that you hand over your sales ledger to the lender and let them take care of the payment collection as well.
Overall, you have more credit control with an invoice discounting facility than you would with invoice factoring. Invoice discounting is more simple than invoice factoring because you simply receive an advance on the cash in exchange for a fee.
Another difference between invoice discounting and invoice factoring is the costs associated with each of the services. Overall, invoice discounting is cheaper because the company doesn’t have to outsource the collection process. Invoice factoring is more expensive because it incurs additional services on behalf of the lender.
What is non-recourse invoice discounting?
Non-recourse invoice discounting is a way for businesses to reduce the risk of non-paying customers. When you enter a non-recourse agreement, you pay a higher fee, however, the lender takes on the liability in the case of an unpaid invoice.
Another option is recourse invoice discounting. In this scenario, the business takes full responsibility for the outstanding invoice and returns any cash advances to the lender.
What is confidential invoice discounting?
Confidential Invoice Discounting, also known as CID, is the most discreet form of invoice financing available.
Unlike invoice factoring, where your customers know you are using a third party to finance unpaid invoices, invoice discounting lets you enjoy these services in a completely confidential manner.
Your customers are unaware that your capital is being advanced before the payment is received and you get instant access to cash whilst retaining control over your credit and collection services. You won’t have to inform clients about the service and you can uphold the same standards of communication and collection that they are used to.
Invoice discounting can be harder to secure because this form of financing typically requires a turnover of more than £250,000. However, there’s another type of invoice finance known as disclosed invoice discounting, which acts as a halfway point between factoring and invoice discounting. It allows businesses, whose balance sheets aren’t quite strong enough for confidential invoice discounting, a more discreet way to benefit from invoice finance.
What are the costs of invoice discounting?
The fees associated with invoice discounting will always vary per business and even per invoice. There are typically two fees that make up the cost of invoice discounting – the service fee and the borrowing fee.
As with invoice factoring, you are charged a service fee for the financing, which is calculated as a percentage of your turnover. Invoice discounting also entails an additional charge known as the borrowing fee. This is charged per invoice and is comparable to interest.
The longer it takes for you to collect the payment, the higher your borrowing fee will be. Therefore, it’s difficult to pinpoint what the exact costs of invoice discounting will be for each company.
However, since you are collecting and managing the outstanding debt yourself, invoice discounting fees are typically cheaper than invoice factoring fees.