The Difference Between Invoice Factoring and Merchant Cash Advance

Every business owner knows that cash flow is a must, and with it, you can purchase raw materials and inventory, all while paying your overhead expenses and keeping up with payroll. Without cash flow, you may find yourself unable to fill orders or meet the needs of the business. 

This is where invoice factoring and merchant cash advance comes in. Sometimes, business owners must seek out sources for funding that will allow the business to continue to operate even during difficult times. 

Knowing the difference between invoice factoring and merchant cash advance is crucial.

It allows you to make sound business decisions regarding finances, and to withstand financial difficulties. Ultimately, both options have the potential to provide a consistent influx of capital to drive innovation and business growth. 

What is Invoice Factoring?

Invoice factoring is a financial service commonly implemented by a company similar to Alliance One LLC. The factoring company purchases your invoices, and you receive payment for those invoices within 24 hours. You choose which invoices you want to sell to the factoring company, and then receive an advance on each invoice. This leaves the factoring company responsible for collecting the payment from your customer. Then, the factoring company deducts its fee and returns the remaining balance. 

Do not confuse invoice factoring with a loan. Factoring is more common in construction or trucking companies because they must purchase materials, pay labor, and cover operating costs in advance of collecting payments from their customers. It is also commonly used for new businesses that need working capital in order to support their growth but lack of credit history to obtain a loan. 

What is Merchant Cash Advances?

A merchant cash advance is a financial service that offers a cash advance based on your future credit card sales. Eventually, you pay back the advance plus interest in installments from an agreed-upon percentage of your daily credit card sales. This percentage is often 10-20% and means that the daily dollar amount that is debited will vary. 

MCA is typically used by companies that have a lot of credit card sales, such as restaurants and retail stores. This is a great solution for a small business that may not have a positive credit history to qualify for a merchant cash advance. 

Invoice Factoring Is Less Risky

From years of experience, we can honestly say that invoice factoring is far less risky than MCA. Although there is always some risk involved when financing a business, there is a big difference between the risk regarding invoice factoring and merchant cash advances. 

Factoring advances money based on an existing invoice, and the money that your customer owes for the product or service advances to you through the sales of your invoice factoring company. Whereas with MCAs, you are given money based on an estimate of future sales. In addition, MCAs usually require access to your bank accounts so that they can take out the funds automatically. 

Merchant Cash Advances Can Be More Expensive

It should come as no surprise that merchant cash advances can be far more costly than invoice factoring. MCA fees can be significantly higher than factoring fees, whereas factoring fees are a percentage of the invoice. There is a basic fee that applies to each invoice factored.

Regarding MCA fees, the fee is typically between 20-50% of the amount borrowed. This means that you will likely end up paying back significantly more than your initial advance. In addition, you must consider that MCAs are technically commercial transactions, therefore they are not subject to the same federal regulations that banks are. 

Invoice Factoring Maximizes Cash Flow

Invoice factoring is a huge perk for small business owners that are looking to maximize their cash flow. This is due to the fact that it advances money against invoices that have already been fulfilled. When you factor an invoice, you get money the same day, and you can use that to buy materials, to invest in your company, or make payroll. 

MCAs are quite different, in that they provide you with a lump sum, but if you use that money to pay off existing debts, you may find yourself cause in a vicious cycle of requiring another cash advance in order to pay off the first one.

Invoice Factoring Includes Back Office Services

The biggest difference between MCA and factoring is the factoring fees. When you get an MCA, all you are receiving is money. Whereas, factoring companies typically provide services that include billing and invoice collection. 

It can be quite expensive to pay someone to make collection calls on your outstanding invoices. When you work with an experienced invoice factoring company like Alliance One LLC, we work with you as a part of your team and on your behalf.