Invoice factoring: how it works and what it costs

How invoice factoring works step by step

1. The business delivers and issues an invoice on 30 or 60-day terms.
2. It sells the invoice to a factoring company, also called a factor.
3. The factor pays an advance, a share of the invoice value, within days.
4. The customer pays the invoice to the factor on the due date.
5. The factor pays the business the rest, minus its fee.

Invoice factoring example with figures

A packaging supplier in Lagos has a ₦10,000,000 invoice on 60-day terms. Say a factor offers an 85% advance and a fee of 2% per 30 days. Use the rates on your own quote.

The supplier gets ₦8.5 million today and pays ₦400,000 for it. If the customer pays at day 90, the fee grows to ₦600,000.

Recourse and non-recourse factoring

Non-recourse usually covers customer insolvency only. A dispute about the goods or service stays with the business.

Factoring, invoice discounting and AR financing

Costs to ask about

• Advance rate. The share of the invoice paid upfront.
• Factoring fee. Per invoice, per 30 days or per week outstanding.
• Minimum volume. Some factors ask for a monthly minimum or every invoice of a customer.
• Setup and termination fees.
• What happens if the customer pays late. The fee usually keeps growing.

When factoring makes sense

Factoring fits businesses that sell to large customers on long terms. A supplier to a supermarket chain on 90-day terms is the classic case.

It costs more when customers pay late, because the fee runs by time. Lowering days sales outstanding first makes any factoring cheaper. Sometimes it removes the need for it.

Factoring and debt collection

Factoring is a financing deal, not a collection service. The factor buys current invoices and collects them as part of the deal.

South African law marks the difference. The Debt Collectors Act 114 of 1998 excludes a party to a factoring arrangement from its definition of debt collector.

The real cost of factoring as a yearly rate

A fee of 2% per 30 days sounds small. Compare it with a loan by turning it into a yearly rate on the money you actually receive.

The yearly rate rises if the customer pays late, because the fee keeps running. Ask the factor for an example at 90 and 120 days.

What a factoring company checks

• Your customers' credit. The factor cares more about who owes the invoice than about your business.
• The invoices themselves. Goods delivered or services done, with no open dispute.
• Concentration. Too much of your sales with one customer can lower the advance.
• Your collection history. Customers who pay late cost the factor more.
• Existing liens. A bank loan secured on your receivables can block a factoring deal.

A clean aging report and a statement of account per customer speed up the approval.

Alternatives to factoring

Each option has its own cost. An early payment discount of 2% for 20 days is also a high yearly rate, so price it with care.

Questions to ask before you sign

1. Do I have to factor every invoice, or can I choose?
2. Is the fee charged per 30 days, per week or as a flat rate?
3. What happens to the fee if my customer pays late?
4. Who contacts my customers, and with what messages?
5. How do I leave the contract, and what does it cost?
6. Is the agreement recourse or non-recourse, and what does non-recourse cover?

Get the answers in the contract, not in an email. Compare at least two offers on the same invoice.

Is invoice factoring worth it for a small business

It is worth it when the cash pays for something that earns more than the fee. A large order that needs stock is the usual case.

It is rarely worth it to cover customers who pay late out of habit. Then the fee pays for a collection problem that reminders can fix.

A good test is the yearly rate. Compare it with your margin on the sale the cash will fund.

How factoring looks to your customer

With most factoring, the invoice carries a notice to pay the factor. The customer pays a new account and may get calls from the factor's team.

Some customers read this as a sign of cash trouble. Others are used to it, especially in trade and logistics.

Tell key customers before the first factored invoice goes out. A short call avoids payments sent to the wrong account.

Factoring in different markets

Factoring is common in trade across the UK, India, Nigeria, South Africa and the Philippines. Government programs in some countries support it for small suppliers to large buyers.

Local rules decide how the factor must notify your customer and how the invoice is assigned. Read the assignment clause with care and ask the factor how it is registered where you operate.

Whatever the market, the numbers to compare are the same. Advance rate, fee per period, minimum volume and what happens when a customer pays late.

Get paid sooner without selling the invoice

Many businesses factor because customers pay late, not because terms are long. Reminders on time recover many of those days at a fixed monthly cost.

Makatea sends each customer a reminder on WhatsApp and email before and after the due date. It records every payment and every promise to pay. Makatea does not finance invoices or move money. Start free for 14 days with no card.

Sources

• Debt Collectors Act 114 of 1998, section 1, definitions of debt collector and factoring arrangement, justice.gov.za, read 15 October 2026.
• Rates in the example are illustrative. Each factoring company sets its own advance rate and fee.