Understanding Payroll Factoring: A Comprehensive Guide
Making payroll on time can be challenging for staffing agencies. Often, entrepreneurs sacrifice personal savings or dig into their own pockets to cover employee wages when cash becomes scarce.
Invoices outstanding for 30, 60 or even 90 days can create holes in cash flow. Fortunately, financing options such as payroll factoring can help bridge gaps in funding without creating new debt or sacrificing business equity.
What is Factoring?
Payroll factoring, also known as payroll funding or payroll invoice financing, is a form of business financing that uses outstanding customer invoices as collateral. It is often used as a bridge to a more traditional financing source such as a long-term business loan, or as an alternative for small businesses that have been denied by banks for business loans.
Typically, the process works like this: a business provides goods or services to their clients, then creates and sends an invoice for those items or services to their customers. The business then “sells” those invoices to a payroll factoring company. The factoring company then immediately pays the business up to 80%-90% of the invoice value, minus their fee, in order to provide working capital to meet payroll needs. The factoring company will then wait for the client to pay the invoice, and will then deposit the remaining balance (minus their fee) into the business bank account.
Having the necessary cash flow to meet weekly or fortnightly payroll can be a challenge for staffing agencies and other businesses. In many cases, the business owner may choose to take a cut in pay or dip into their savings to ensure that employees are paid on time. However, with a payroll factoring solution in place, these sacrifices are unnecessary. Factoring companies provide a fast, easy and affordable way for businesses to get the money they need to continue growing their business, looking for new clients, and retaining current ones.
What are the Benefits of Factoring Invoices?
Payroll is one of the largest expenses for staffing agencies and temp businesses. But even when clients sign on 30-day to 60-day terms, it can be difficult to meet payroll obligations if your cash is held up in accounts receivable. This is where factoring can help.
With factoring, you “sell” your invoices to a factoring company who advances 80-90% or more of the value of the invoices in exchange for a fee. The factoring company will then take on the responsibility of collecting payments from your customers and sending back any outstanding balances, minus their fee. They can also provide a variety of other value-added services to assist you with accounts receivable management.
Another benefit of payroll factoring is the ability to offer payment terms to large commercial and government clients. These clients often prefer to work with companies that can offer flexible terms. In addition, you can avoid accumulating inventory costs by using a factoring service that provides funding shortly after creating an invoice.
Many factors also provide credit services, which can increase your business’s borrowing power and strengthen its balance sheet. This is especially useful if your business has been turned down for a bank loan due to credit problems. Factoring is not a loan, so it does not appear on your balance sheet and does not incur interest charges.
How Does Factoring Work?
Payroll invoice factoring is a financing option for businesses that need to fund their employees’ salaries on a regular basis. The process works by selling a company’s accounts receivable to a factoring company for immediate cash. The factoring company assumes the responsibility for collecting payment from your customers and keeps a small percentage of the total invoice amount as their fee. The remaining balance of the invoice is deposited into your company bank account.
Businesses that need payroll funding typically find themselves struggling to maintain consistent cash flow and meet weekly or biweekly wage demands. In addition to helping to alleviate cash flow concerns, factoring payroll invoices can also provide additional organizational benefits.
Many companies that benefit from payroll factoring are labor intensive types of companies such as staffing agencies or call centers. They may have clients with long net terms of 30, 60, or more days and may face difficulty meeting payroll expenses if the cash isn’t available.
With payroll factoring, a business can often obtain funds for its eligible invoices within 24 hours after the factoring company receives the fax or electronic invoice with backup documentation by 10 AM. They can choose to sell just a few invoices for cash, or they can factor all eligible accounts receivable, known as whole ledger or full-turn factoring. They can also opt for full-service factoring, in which the factoring company handles all aspects of invoice processing including printing and paying payroll taxes.
How to Find the Right Factoring Company
There are many factoring companies, but not all of them will be a good fit for your business. You should research them all thoroughly to find a company that can cater to your industry and needs. Look at the fees, stipulations and general guidelines to make sure that they are a fit for your business. Once you have found a factoring company that you can trust, it is time to begin the process of payroll factoring.
When you sign up for payroll factoring, the factoring company will take over the responsibility of collecting payments from your clients. They will contact your clients with a “notice of assignment” and send any remaining balances (minus their fee) back to you. The amount that you are given back will vary depending on the size of your client base and the length of your invoice terms.
When looking for a factoring company to work with, it is important to consider how fast they can get you funded and what kind of service they offer. Make sure that they provide prompt and courteous phone and email support and have the ability to meet face-to-face when necessary. It is also a good idea to find out if the factoring company offers other financing products such as purchase order financing and trade and import financing.