Your clients pay at 60 or 90 days, but payroll and suppliers do not wait. Two solutions often come up: a line of credit and factoring. They solve the same problem, but not in the same way, and they do not suit the same businesses.
A line of credit, in short
A line of credit is a credit limit you use as needed, then repay. It is granted based on your business: your financial statements, your history, and often a security on the company's assets, including receivables and inventory.
- The limit is set in advance and reviewed periodically by the bank.
- You pay interest on the amount used.
- It is a debt on the company's balance sheet.
Factoring, in short
With factoring, your invoices are the basis of the financing. You invoice your clients as usual, the lender advances part of the invoice value, and the balance is paid to you when your client pays, minus the lender's fees.
- The lender mainly looks at the strength of the businesses that pay you, not only at your history.
- The amount available follows your sales: the more you invoice, the more it can grow.
- Depending on the lender, you can choose certain invoices or certain clients only.
The differences that matter
What the decision is based on. A line of credit is based on your business and its security. Factoring is based on your invoices and the quality of your clients. A young business, or one turned down by its bank, may therefore qualify for factoring if its paying clients are solid.
How the amount changes. A line of credit has a fixed limit. It can become too small if your sales grow quickly. With factoring, the financing grows with your invoicing.
Which invoices qualify. Factoring covers business-to-business or government invoices, for completed work or delivered goods, payable in 90 days or less. Invoices to individuals do not count. A retail store or a restaurant is therefore not the right profile.
What you pay. With a line of credit, you pay interest on the amount used. With factoring, you pay the lender's fees, which depend on your volume, your clients' payment terms and their strength. Neither cost is known in advance: you have to compare real offers.
The trap to check first
If your bank granted you a line of credit secured by your receivables, those invoices are already pledged. A factoring lender cannot finance them until the bank agrees or releases that security.
So the two solutions do not always go together. This point has to be checked before any application, or the file gets stuck during the verifications.
Which one to choose?
A line of credit often suits an established business, with good financial statements, a solid banking relationship and fairly stable needs.
Factoring often suits a business that invoices other businesses and whose clients pay late: transportation, manufacturing, distribution, business services. It also helps when sales grow faster than the line of credit, or when the bank refuses to raise the limit.
In many cases, the real question is not "one or the other", but "what is blocking today": the line of credit limit, your clients' payment terms, or the growth of your sales.
Key takeaways
- A line of credit is based on your business. Factoring is based on your invoices and your clients.
- Factoring covers B2B or government invoices, for completed work, at 90 days or less.
- First check whether your receivables are already pledged to your bank.
- Compare the real cost of the offers before deciding.
I mainly work with cash flow loans and factoring, not lines of credit. If you are hesitating between the two, tell me who your clients are and how many days they take to pay: I will tell you honestly whether factoring is a good option. Details are on the Factoring page, and calculating your need is explained in How to calculate your working capital.