Every small business knows the pain of having cash tied up in unpaid invoices. But what if there was a way to access that money without waiting 30, 60, or 90 days for a client to pay?
Late payments affect an estimated 1.5 million UK businesses each year, while businesses are owed around £26 billion in late payments at any given time. Invoice finance provides a practical solution to this problem.
What Is Invoice Finance?
Invoice finance is a quick way to unlock cash against your business's unpaid invoices. If your cash flow is disrupted, a financial provider can lend you a portion of the value right away (usually 80-90% or more) while you wait for your customer to pay.
Invoice finance is generally used as an umbrella term for: invoice factoring, invoice discounting, selective invoice finance, and spot factoring.
How Does Invoice Finance Work?
1. You sell goods or services to a client or customer.
2. You share a copy of the bill with an invoice finance provider.
3. The provider pays you a large share of the money (up to 90% or more).
4. The client pays the amount quoted on the invoice to you or your finance provider, depending on your arrangement.
5. The provider gives you any leftover cash minus their service fee.
Different Types of Invoice Financing for Small Businesses
Invoice Discounting
Invoice discounting is a financial arrangement in which your business borrows money against its unpaid customer invoices. A provider will advance 80-90% of the invoice value, usually within 24 hours.
One of the benefits is that it remains confidential. Your customers still pay into your company bank account, unaware that a third party is involved. The only main drawback is that you remain responsible for chasing the payment.
Invoice Factoring
Invoice factoring is slightly different from discounting because the provider typically manages your sales ledger and collects payments from your customers directly.
This option works well for small to medium businesses that don't have a dedicated accounts team. The downside is that your customer knows a third party is involved, and fees are usually higher than with invoice discounting.
Selective Invoice Finance & Spot Factoring
With selective invoice financing or spot factoring, you only hand over the invoices you choose. Selective finance allows businesses to choose particular customer accounts, while spot factoring can allow individual invoices to be financed.
The upside is that you can just use the service when your cash flow needs a boost. The downside is that fees can be slightly higher than discounting or factoring.
Invoice Finance Options Compared
| Features | Invoice Factoring | Invoice Discounting | Selective Invoice/Spot Factoring |
|---|---|---|---|
| Which invoices? | Some or all of your sales ledger | Some or all of your sales ledger | Only specific invoices you choose |
| Do your customers know? | Yes, the provider contacts them directly | No, it is confidential | Can be confidential or visible |
| Who collects payments? | The finance provider | Your team | Your team (usually) |
| How long is the contract? | Longer term (12-24 months) | Longer term (12-24 months) | Short-term/pay-as-you-go |
| Best suited for | SMEs with no dedicated finance team | Businesses with an in-house team | Businesses needing occasional cash |
Invoice Finance for UK Businesses: Am I Eligible?
Invoice finance is normally available to businesses that sell goods or services to other businesses on credit terms. Providers will typically assess your trading history, outstanding invoices, and the creditworthiness of your customers.
Invoice finance should not be a substitute for profitability. While it can help businesses manage short-term cash-flow pressures, it cannot solve underlying financial problems.
Are There Risks Involved with Invoice Financing?
Financial Risks
If a customer fails to pay their invoice, your business typically remains responsible for repaying the finance provider, depending on whether the arrangement is with recourse or without recourse. There are additional costs to consider, including service fees, interest or discount charges, and exit fees.
Operational and Relationship Risks
With invoice factoring, the finance provider takes responsibility for collecting payments from customers, which can affect the way you manage your customer relationships. Agreements can include contractual restrictions such as minimum terms and notice periods.
Cash Flow Dependency Risks
Relying too heavily on invoice finance can create problems if sales fall or customers take longer to pay.
| Type of Invoice Finance | Main Risks |
|---|---|
| Invoice Financing | Cost of finance, customer non-payment (with recourse), long-term contractual commitments |
| Invoice Factoring | Customer relationship risks, costs, loss of control over collections |
| Selective Invoice/Spot Factoring | Higher costs per invoice, limited availability, customer perception |
Invoice Finance: With or Without Recourse?
This refers to who takes the risk if your customer doesn't pay the invoice.
With recourse: Your business retains the risk. If you receive an advance and your customer doesn't pay, you may have to repay the provider or replace the invoice. This is the most common arrangement.
Without recourse: The finance provider takes on some or all of the customer credit risk. If the customer fails to pay due to insolvency, you generally don't have to repay the advance, though exclusions usually apply and the provider may charge more.
For example, if you issue a £10,000 invoice and the finance provider advances you £8,000: with recourse, if the customer doesn't pay, you may have to repay the £8,000. Without recourse, if the customer becomes insolvent and the non-payment is covered, the finance provider generally absorbs the loss.
Is Invoice Finance Right for My Business?
Invoice finance is a good option for many UK businesses. It is usually a fast and straightforward way to help you manage your working capital, cover expenses, and take advantage of growth opportunities. When comparing options, consider your business's cash flow needs, customer payment behaviour, and how much you want to rely on external funding.