At some point, every business of all sizes will naturally look at the different funding options to meet its financing needs—whether it is a need for working capital to start a new business project, investment for marketing, or cover cash flow issues and emergency expenses. And, of course, that includes invoice financing and unsecured loans among the choices. However, how will you know which will work best for your business?
Fret not because you’ve come to the right place! Today’s blog post aims to help you get a clear and better understanding of Invoice Financing and Unsecured Loans so you can make well-informed decisions in your quest to provide financial backup for your SME company. Here’s everything you need to know.
Understanding Invoice Financing
Also called account receivables financing or receivable financing, Invoice Financing, by definition, is usually carried out to meet the short-term liquidity needs of your business. It enables you to use your unpaid invoices as collateral to get a loan from a financing company. Invoice financing can help improve your cash flow for operational needs or speed up your business expansion and investment plans.
Generally, Invoice financing can be structured in two forms or types:
a) Invoice Factoring
With invoice factoring, the factor or lender (finance company) is in charge of collecting the payments from the business’ customers; thus, the customers know that a third party is involved. Likewise, since the lender takes responsibility for collecting the invoices, there’s a due diligence fee that the lender charges to measure the customers’ creditworthiness, which is why the fee is slightly high.
b) Invoice Discounting
Alternatively, your business could utilise invoice discounting, similar to invoice factoring, except that your business (not the lender or finance company) has the right to collect payment from the customers. As the collection of invoices still lies with your business, there is no due diligence charge here, so the fee is slightly lower than invoice factoring.
The Pros and Cons of Invoice Financing
To gain better knowledge of Invoice financing, here’s an overview of its benefits and disadvantages:
Pros
- Fast to fund and high-valuable in an emergency
- Ideal for season operations and B2B companies
- Light-touch approval processes – few questions and less paperwork
- Invoices serve as collateral
Cons
- High Factoring Fees
- Potential one-time and monthly hidden or “extra” fees.
- Not all businesses can use invoice financing since it is limited to B2B companies
- Reliance on customer payments
Let’s move on to the next phase and discuss Unsecured Loans.
Understanding Unsecured Loans
Simply put, unsecured loans don’t require you as a borrower to pledge any collateral or physical assets (such as property, inventory or vehicles). Instead, your lender will evaluate your business’s income stream and credit history as security to determine whether you qualify for unsecured loans. That’s why you must have a good credit score in order to get approved. There are many other types of Unsecured Loans, but mainly it can be divided into three types: Revolving Loans, Term Loans and Consolidation Loans.
The Pros and Cons of Unsecured Loans
In a nutshell, here are the upsides and downsides of Unsecured Loans to help you weigh your options:
Pros
- Easy and convenient application process
- Less stringent qualifications—you don’t need to own valuable assets such as a home or vehicle to qualify as long as you have a good credit score and income stream.
- The higher your income, the larger the loan amount you can borrow
- Unsecured loans can be generally used for a wide variety of purposes.
- Flexible borrowing and repayment options
- No risk of losing your collateral
Cons
- Interest rates and terms are less favourable if you have a weak credit score.
- A collateral-free business loan can be risky for lenders, so they may impose higher interest rates to offset or compensate for the risk.
- Missed payments or defaults will harm your credit score.
- Default may result in subsequent wage garnishments and legal action.
In Conclusion
As a general rule, before you commit to any business funding options—whether it`s invoice financing or unsecured loans, it’s important to do your research first and weigh your options carefully. Only borrow what you need and can repay, and ensure you are comfortable with the payoff timeframe. Hoping this blog helps!
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