Increase your working capital with an overdraft or factoring

A business current account credit facility allows you to have an overdraft on your current account. You are allowed to draw down the amount of the overdraft at any time. You then transfer it back within the agreed credit limit. This ensures you have access to additional working capital. ‘Factoring’ is when you sell outstanding invoices to a factoring company. You receive the outstanding amount right away. The funds are usually in your account within 24 hours. This means you are no longer dependent on the due date stated on the invoice.

What is a current account?

A current account credit facility is linked to a business current account at a bank. You are allowed an overdraft on this account. The amount is determined by the bank. This is the upper credit limit. The bank will first check your performance in your business, along with your monthly results. You will have access to the credit facility once the bank has given its approval.

Please note: a claim or debt you have within your own business, for example between the holding company and the operating company, is also referred to as a ‘current account facility’. This is not a business overdraft, like a current account credit facility; it is a debt. This can be confusing. Be sure not to mix up the two.

Securing a credit facility for a fixed period

A current account credit facility is entered into for a fixed period, usually a year. You provide collateral for the loan and are also a personal guarantor. Once the term is over, you and the bank can negotiate a new period and the corresponding terms and conditions. Keep in mind that the bank will charge you additional fines and fees if you exceed the credit limit. And note that the bank may revoke the current account credit facility at any time.

Changing the upper limit of a current account credit facility

The upper limit of your credit facility will not increase automatically in line with your business. Is your business experiencing growth that requires more pre-investment? You will need to negotiate with the bank again to discuss the credit limit and new terms and conditions. ABN AMRO’s Sander Meeuwsen confirms that this is possible: “Current account credit facilities are always tailor-made at our bank. Particularly for business owners with stable business growth, current account credit facilities are a suitable form of financing.”

What is factoring?

If your account is overdrawn for a couple of days each month, this is not really a problem. But if you frequently or consistently have an overdraft, you generally pay high interest. If you have a negative bank balance more regularly and for a longer period, take time to learn about alternative financing types, such as factoring (also known as debt financing). This will improve your cash flow and liquidity.

A growing number of business owners are using factoring services. However, many people are not yet familiar with the phenomenon. This is not really surprising.  Factoring was originally only for large companies. The number of providers of factoring services in the market has now increased, and the services are also available to SMEs. There are also factoring services available specifically for freelancers (independent contractors).

Tim Zoete of factoring company Voldaan Factoring: “The advantage of factoring is that you only incur expenses if you actually use the product. If you have a current account credit facility, you pay a fee even when you do not use it. Some factoring companies can transfer the amount tied up in outstanding invoices within 24 hours. If you do a little looking around, you can find a provider who charges an all-in fee, including insurance against customers who do not pay.”

Payment of outstanding invoices

Providers of factoring services provide you with working capital based on your business’s accounts receivable. The factoring company will pay your outstanding invoices, which means you will receive the amount of the invoice without delay. The advantage is that you will not have to deal with long payment terms. A strong accounts receivable portfolio or other valuable assets (including inventories and purchases) serve as collaterals for factoring.

Three types of factoring

The three main forms of factoring are:

• American factoring: factoring available from as little as one or two debtors. You will receive up to 97% of the invoice in your account. The advance financing is relatively high.
• Reverse factoring: you only sell invoices to the factoring company that have been approved by your creditworthy debtor. This is generally done to bridge the longer payment term.
• Traditional factoring: you transfer your entire accounts receivable portfolio to a factoring company. Based on the value of this portfolio, you will receive credit in exchange for a fixed amount or percentage of the turnover (revenue). The factoring company prefers you to have a diverse group of debtors. Traditional factoring is an alternative to a bank loan.

American factoring and reverse factoring are both suitable for independent contractors and SME owners. Traditional factoring is more appropriate for larger companies with revenue of €2.5 million or more.

What type of financing is right for you?

You and your business must comply with the requirements set by the factoring companies. For larger amounts, contract duration, accounts receivable management, and credit risk are all determining factors. Revenue requirements and the track record of your business are also part of the acceptance process. Your business is exposed to the risk of default, and you are personally responsible for accounts receivable management.

If you are an independent contractor working on a long-term project for a reliable client, you can transfer part invoices or monthly invoices to a factoring company and use freelancer factoring in this manner. This ensures that your income is spread, while you do not need to wait until the final invoice is paid. Tip: Include a provision for split invoices for major projects in your general terms and conditions.

Difference between current account credit and factoring

These are the main differences between current account credit facilities and factoring.

Collateral

With current account credit facilities, the bank will accept your real estate, debtors, or equipment as collateral; this depends on the agreed credit limit. In factoring services, the collateral and creditworthiness of your customers or clients is important.

Independent contractor or start-up

When entering into a credit facility, the bank will request solid collateral, a good credit history, and positive financial results. But what if you do not have any of these, or at least not yet? This is the case, for example, for businesses or start-ups with limited credit histories. Or if you are an independent contractor who splits invoices. In these cases, factoring companies pay more attention to the customer or client’s creditworthiness and to the invoice date. Freelancer factoring might be more suitable for you in this case than a current account credit facility.

Flexibility

If you exceed the limit of your current account credit facility, you will need to agree with your bank on new terms for the amount of the facility. Banks will then review your repayments over the past several years, and will assess whether this complies with their criteria. A factoring company will look at the estimated cash flows, based on your accounts receivable database, and will respond flexibly as needed. In addition, the application process is often faster for online factoring companies than for current account credit facilities.

Factoring costs

The advantage of factoring is that you only incur expenses if you actually use the product; that is, per invoice. Factoring fees are around 2 to 5% of the invoice amount.

Current account fees

If you have a current account credit facility, you pay a fixed fee. As long as you do not exceed the limit of the overdraft, this will be based on the agreed interest payments. This may, in some cases, be less expensive than factoring.

Ask for advice

Help and advice increase your chances for financing. With a good advisor and a good financial foundation, your funding request is more likely to be successful.  If you would like to discuss your financial situation with an expert, feel free to contact the KVK Financing Desk. Watch the video 'Financing your business'.