A UK business that gives its customers 60 days to pay is, in effect, lending them money for two months. Debt factoring reverses that: a finance provider pays you most of the invoice now and waits for the customer instead.
What is debt factoring?
Debt factoring is a form of invoice finance in which a business sells its unpaid customer invoices (its book debts) to a finance provider, known as a factor. The factor pays an initial advance, typically 70% to 90% of the invoice value, collects payment from the customer, then pays the remaining balance less its charges.
The phrase "debt factoring" is the one you will find in accountancy textbooks, GCSE and A-level business studies syllabuses and company accounts. UK finance providers almost always call the same product invoice factoring. Both sit within the wider family of invoice finance, alongside invoice discounting and selective facilities. The "debts" being factored are your trade receivables: money owed to you by business customers for work already delivered. It has nothing to do with debts you owe.
Three parties are involved: your business (the client), your customer (the debtor) and the factor. The factor's return comes from charges deducted before the final balance is released.
How debt factoring works, step by step
Facilities differ in detail, but the sequence below is common to almost every UK factoring arrangement.
Set up the facility
The provider reviews your sales ledger, customers and invoicing process, agrees an advance rate, fees and a facility limit, and you sign a factoring agreement. Set-up often takes one to four weeks.
Raise and assign invoices
You deliver the work, invoice your customer as usual and upload the invoice to the provider's portal. Each invoice carries a notice of assignment telling the customer to pay the factor.
Receive the initial advance
Once the invoice is verified as genuine and undisputed, the provider pays the agreed percentage into your bank account, often within a day or two.
Collection and final balance
The factor's credit control team chases and collects payment. When the customer pays, the provider releases the remaining balance after deducting its service fee and discount charge.
Note that the factor's charges come out of the retained balance, not the advance, so the cash you receive on day one is the full agreed percentage.
A worked example
Suppose a small engineering firm invoices a customer £25,000 on 60-day terms and factors it under a facility with an 85% advance rate, a 2% service fee and a discount charge of 4% a year above a reference rate of 4%, giving 8% a year in total.
Illustrative example One £25,000 invoice paid after 60 days
- Invoice value
- £25,000.00
- Initial advance (85%)
- £21,250.00
- Retained by the factor
- £3,750.00
- Service fee (2% of invoice value)
- £500.00
- Discount charge (8% a year on £21,250 for 60 days)
- £279.45
- Final balance released on payment
- £2,970.55
- Total received by the business
- £24,220.55
Figures are illustrative estimates only and do not represent a finance offer. Total cost here is £779.45, about 3.1% of the invoice, for having £21,250 two months early.
Try your own figures in the invoice factoring calculator.
Types of debt factoring
"Factoring" covers several variants. The three distinctions that matter most are who carries the bad debt risk, whether customers are told, and how much of your ledger is included.
| Distinction | Option A | Option B |
|---|---|---|
| Bad debt risk | Recourse: you repay or replace invoices that stay unpaid beyond the recourse period. Cheaper and more widely available. | Non-recourse: the factor absorbs losses from an approved customer's insolvency, for an extra premium. Disputes are usually excluded. |
| Customer awareness | Disclosed: invoices carry a notice of assignment and customers pay the factor. This is standard factoring. | Confidential: customers are not told. Rare in factoring; usually achieved through confidential invoice discounting instead. |
| Ledger coverage | Whole-ledger (whole turnover): every eligible invoice is factored. Lower rates, ongoing commitment. | Selective or spot: you choose which invoices or customers to fund. See selective invoice finance and spot factoring. |
A further variant, CHOCS (Client Handles Own Collections), is disclosed factoring where you keep chasing payment yourself, which can suit businesses with a capable credit controller.
Is debt factoring a short-term or long-term source of finance?
If you are answering an exam question, the answer is short term and external. Each advance is repaid within the life of the invoice, usually 30 to 90 days, which makes factoring a short-term source of working capital rather than long-term capital for buying assets. It is external because the money comes from an outside provider, not from retained profit or the owners.
In practice, facilities are often used continuously for years, because invoices are raised and settled in a rolling cycle: a short-term instrument used on a long-term basis.
Who uses debt factoring?
Factoring suits businesses that sell to other businesses on credit and feel the gap between paying costs and getting paid. Typical users include recruitment agencies paying temporary staff weekly while clients pay monthly, hauliers with weekly fuel and driver costs and 60-day customers, manufacturers and wholesalers buying stock months before the sale is settled, and service businesses without the staff to chase payment. UK Finance reported that at the end of 2024 its members supported around 34,000 businesses with over £21bn advanced at any one time.
It is less suitable for businesses selling to consumers, paid in advance, or invoicing for stage payments and uncompleted work, as in much of construction.
Advantages and disadvantages
Advantages
- Releases a large share of invoice value soon after invoicing
- Funding grows with sales rather than being capped at a fixed amount
- Credit control is handled by the provider, saving staff time
- Eligibility rests mainly on customer quality, not your own balance sheet
- Can be combined with bad debt protection
Disadvantages
- Total charges can be higher than an overdraft or term loan
- Customers know you are factoring and are contacted by the provider
- Contracts often run 12 months with 3 to 6 months' notice
- Under recourse terms, unpaid invoices come back to you
- Concentration limits can restrict funding if one customer dominates
Each point is examined in more depth in our guide to debt factoring advantages and disadvantages.
What does debt factoring cost?
Two charges make up most of the cost. The service fee pays for administration and credit control and is typically 0.75% to 3% of invoice value or turnover. The discount charge is interest on the money advanced, usually quoted as a margin of roughly 1.5% to 5% a year over Bank of England base rate or SONIA, and charged only for the days funds are outstanding. Arrangement fees, minimum monthly fees, audit fees, refactoring fees after the recourse period and termination fees may also apply. All of these vary by provider, turnover and risk. Our invoice factoring costs guide explains each charge and how to compare quotations.
Eligibility: what providers look for
- You sell goods or services to other businesses (or public bodies) on credit terms
- Invoices are for completed, deliverable work, not deposits or stage claims
- Customers are creditworthy and the ledger is not dominated by one of them
- Turnover is typically above £100,000 to £250,000, though some providers go lower
- You are a limited company or LLP; sole traders and small partnerships can qualify, but some providers restrict or structure facilities differently because of the Consumer Credit Act
Use our eligibility checker for a fuller picture of what helps and what makes providers cautious.
Want to know whether factoring fits your ledger?
Tell us about your turnover, customers and sector and we will explain which facility types may be worth enquiring about.
Debt factoring vs invoice discounting
Both release cash from unpaid invoices. The difference is who collects the money. With factoring the provider runs credit control and customers pay it directly. With invoice discounting you keep collecting payment yourself, usually without customers knowing, and pay a lower service fee for doing the work. Discounting is generally reserved for larger businesses with proven credit control. The full breakdown is in factoring vs invoice discounting.
Regulation: factoring provided to limited companies and LLPs is not regulated by the Financial Conduct Authority. Most UK providers follow the UK Finance Standards Framework, which includes an independent complaints process. Debt Factoring is an information service, not a lender.
Frequently asked questions
What is debt factoring?
Debt factoring is a form of invoice finance in which a business sells its unpaid customer invoices to a finance provider, known as a factor. The factor pays an initial advance, typically 70% to 90% of the invoice value, collects payment from the customer, then pays the remaining balance less its charges.
How does debt factoring work?
You raise invoices as normal and assign them to the provider, which advances an agreed percentage of each approved invoice. Its credit control team collects payment from your customer, and once the invoice is settled the provider releases the remaining balance less its service fee and discount charge.
Is debt factoring the same as invoice factoring?
Yes. Debt factoring and invoice factoring describe the same arrangement. Debt factoring is the term used in accountancy and business studies; invoice factoring is the term most UK providers use in their product literature.
What does debt factoring cost?
Usually a service fee of roughly 0.75% to 3% of invoice value or turnover, plus a discount charge on funds advanced of typically 1.5% to 5% a year above Bank of England base rate or SONIA. Arrangement, minimum and other fees may apply, and all vary by provider and circumstances.
Who qualifies for debt factoring?
Typically a UK business that sells to other businesses on credit, invoices for completed work and has creditworthy customers. Many providers set a minimum turnover of around £100,000 to £250,000, though some accept less. Limited companies are the most straightforward to fund; sole traders and small partnerships can face additional requirements.
Does the factoring company contact my customers?
With standard disclosed factoring, yes: the provider sends statements and reminders, may telephone customers about overdue invoices, and customers pay it directly. If you would rather customers were not contacted, confidential invoice discounting or CHOCS factoring, where you handle collections, are the alternatives.
What happens if an invoice is not paid?
Under a recourse facility, an invoice still unpaid after the recourse period, often 90 to 120 days past due, must be repaid or replaced by you. Under non-recourse factoring or with bad debt protection, the provider absorbs the loss if an approved customer becomes insolvent, subject to the terms of the cover. Disputed invoices are usually excluded.
Is debt factoring suitable for new businesses?
It can be. Funding is secured on your customers' invoices rather than your trading history, so some providers consider start-ups that already have business customers and issued invoices. Expect lower advance rates, closer monitoring and fewer providers to choose from than an established company would have.
What are the risks of debt factoring?
Cost, dependency and customer relationships. Charges can reach several percent of turnover a year, 12-month contracts with notice periods make exit harder, recourse terms return bad debts to you, and because the provider contacts your customers, poorly handled collections can strain those relationships.