Credit for a business owner is a tricky thing. It’s sometimes harder to get than personal credit, yet it’s essential to the well-being of your operation. Cash flow sometimes slows down when customers are slow to pay and sales haven’t picked up enough to cover the shortfall. The obvious solution is to go to the bank and ask for a line of credit or a short-term loan, but the bank wants a lot of paperwork to prove your reliability and creditworthiness. And if you have a few dings anywhere in your credit history, it can be that much harder to get the cash you need.
One of the more convenient ways around the bank is factoring. It gets you cash faster, doesn’t need a perfect credit score, and isn’t bothered by your outstanding debt-to-income ratio. Going this route also has a positive effect on your overall credit score. Following are reasons why factoring helps you improve your credit score and how it works.
The Basics of Credit Scoring
Credit scoring for businesses is the same as personal credit. Your business pays its debts on time with lenders and creditors and is rewarded by getting an increase in its credit rating. A late payment here or there does ding the score a bit, but as long as there’s only the occasional late payment, it’s not a major issue in the overall creditworthiness of the business. If there are quite a few late payments, it’s much harder for the business to get the money it needs from lenders at a reasonable rate, if at all.
Getting Around Credit Scoring With Factoring
When your credit score has taken a few blows and repayments are still being made on loans, it lowers the potential for a new loan to cover existing debts. Lenders don’t always like the idea of creating more debt to cover old ones. Factoring gets around this by advancing against outstanding invoices from you for a percentage of the amount owed (usually 70-85 percent), allowing you to generate cash fast without using the bank. Once the invoice is paid by your customer, you get the remaining percentage less the fee the factor charges. You can then keep your outstanding accounts in good graces with lenders, make sure payroll is met, and stay current on other bills.
What happens is that you get cash from a lender who isn’t a bank and doesn’t need a credit score for a loan. Repayment occurs when your customers pay their outstanding invoices instead of using your cash flow. In turn, your credit score will improve because you’ve paid your various debts on time.
Improve Your Credit Profile With Your Vendors
Vendors like it when you pay on time. And, the longer you keep up a good relationship with them by making sure your bills are current, the more likely they are to reward you. That can come in the form of an increased line of credit when you purchase more materials going forward, better terms on repayment, or a higher discount when you make your next regular order. Improved business relationships with your vendors mean better treatment down the road.
Why Factoring Instead of the Bank?
As previously mentioned, factoring works by leveraging your outstanding invoices to a financier. You won’t get face value for the amount you’re owed, but you’ll get a large percentage upfront and the residual minus a fee when the invoice is paid. The borrowed amount is typically large enough that you’ll be able to take care of everything you need to, and the factoring fees are in line with typical cash discount percentages.
The major advantage to factoring is the lack of need to interact with a bank. A factoring agent doesn’t rely on credit scores to determine your creditworthiness. It does take into consideration the relationship between the business and its customer when making a decision to lend, among other criteria. But your chances of having a factoring agent lend you money against an outstanding invoice are greater than having a bank approve a loan when your credit score is low.
Get Funds Quickly Instead of Waiting
Banks do something known as underwriting when you apply for a loan. It’s essentially an investigation into the historical financial performance of your business, which is then used to determine your ability to repay the loan. The lender looks at your credit history, if you’ve paid your loans on time, your total amount of outstanding loans, and your income. Your lender will also ask for your bank statements showing income and outflow. You can tell the bank that the business earns a certain amount of money throughout the year, but the lender won’t take you at your word. All of this can take weeks to complete — time you may not have.
Factoring doesn’t ask for all of this information as they are underwriting the future sales of your business. The factoring agent asks questions but isn’t as concerned with historical financial performance, just outstanding invoices. Advances against the invoices can be funded the same day, which is much faster than a bank.
It’s not unusual to suffer shortages of cash flow when running a business, as customers sometimes come up short or product sales have a slump. Factoring with FSW Funding helps you get around these periods and keeps your doors open without resorting to using a traditional lender. There’s no worrying about a bad credit rating ruining your chances of getting better vendor terms when you factor your invoices.