Recourse and Non-recourse Factoring

The big difference between recourse factoring versus non-recourse factoring is the party at risk for bad debt.

Understanding this important distinction will help a business select the right financing terms when factoring invoices and accounts receivable.

Understanding Recourse Factoring

When a factoring company advances funds to a business client on their accounts receivable they expect to receive payment from the client’s customer or account debtor.  However, if the customer does not pay the invoice then the factor can demand payment from the client with recourse factoring.

Since the factor does not assume the credit risk with recourse factoring it is generally less expensive than non-recourse factoring. A factor may also demand less control and have fewer requirements pertaining to systems and customers.

Of course the flip side is the business receiving the advance is ultimately at peril for loss from bad debt with recourse factoring.  If their customers don’t pay on the invoice they must repay the advance along with any fees to the factor.  A factoring company will generally charge back any delinquent invoices to the business client after 90 days, depending on the terms of the agreement.

Understanding Non-Recourse Factoring

The factoring company takes on the risk of bad debt with non-recourse factoring.  This means the factor goes after the customer or account debtor for payment on delinquent invoices.

The factoring company will generally check credit on account debtors and handle the collection and bookkeeping functions.  They tend to underwrite the creditworthiness of the client’s customers more than the client itself.

While the client may not have to refund the advance to the factor if a customer does not pay for credit reasons, they are still liable for any payment disputes involving the product or service itself.

Popularity Contest

The use of Non-recourse factoring is by far the most popular type of factoring arrangement.  Overall non-recourse factoring accounts for about 85% of transactions with full recourse factoring making up about 10%.  The final 5% is a blend of the two with partial recourse to the client. (Source: Commercial Finance Association 2007 Factoring Survey Results).

Rather than a loan, factoring is primarily structured as an outright purchase of accounts receivable on a non-recourse basis.  This enables factors to say yes to cash advances on creditworthy invoices when traditional banks say no to business loans.

Know Your Options

If you would like to learn more about selling invoices or starting a factoring business you can visit the bookstore for helpful resources including a directory of factoring companies!