The Difference Between an Overdraft and Invoice Financing?

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Bank loans, investments, overdrafts… there are numerous ways to fund your business, whether you’re just starting up, expanding an established firm or simply running day to day operations.

Invoice factoring is perhaps lesser known than some of the more traditional types of lending, and when your company needs an extra injection of cash it can seem easy to play safe and opt for something familiar. Many businesses therefore depend heavily on their overdrafts, dipping in and out of the red whilst waiting for big invoices to be met. But is this the most cost-effective – and reliable – way to work?

What’s an overdraft?

An overdraft is a sum of money agreed with your bank, which is added to your business account for you to borrow when you need it. An overdraft can be handy in an emergency, but fees will be attached and these will increase if you go past your agreed limit.

What’s invoice factoring?

Invoice factoring is a different way to manage your cash flow and make sure that your business isn’t floored by a late payment or an unexpected bill. An invoice factoring firm pays you up to 90% of an invoice and then takes ‘ownership’ of it, chasing up the client for full payment and leaving you free to focus on your work. A good invoice factoring broker will be able to put you in touch with the right invoice factoring company for your type of business.

Which is better?

The two methods of lending are very different, so is one better? The advantages of an overdraft include its flexibility; it can lie unused if you don’t need it, but many people like the safety net of knowing it’s there. It can be cheaper than a bank loan and you can pay it off at any time.

A drawback of an overdraft is that they can be expensive, incurring charges every month which can be substantial if you exceed the agreed limit. Also, you have no choice of lender as you can only arrange an overdraft with your existing bank and so can’t look for a competitive deal.

If you opt for invoice factoring, you will be able to choose from a range of firms presented to you by your broker. Factoring also takes away the uncertainty; the debt will definitely be paid whereas, with an overdraft, there is no guarantee that your client will pay up.

Another benefit of factoring is that it allows for business expansion. An upper limit will be imposed on an overdraft, and this will be based on your business history. Expansion requires capital, and an overdraft based on previous turnover might not provide as much as you need to grow. Invoice factoring, on the other hand, is linked to the amount of business you are taking on and offers flexibility as your venture grows.

The truth is that there is no ‘right’ or ‘wrong’ way to finance your business, and that every firm’s circumstances are different. An overdraft might be a good option for businesses with a static turnover, whilst invoice factoring can be ideal for start-ups and growing businesses.

To find out more about your options, call Simply Factoring Brokers on 0333 772 1558 and see how we can help your business.

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