The purchasing of your accounts receivable can give you the cash up front to pay down debts, invest in new technology, or to avoid insolvency. One of the first questions that arises, though, when companies are considering invoice factoring is what will happen if one or more of the customers refuses to pay.
After all, you don’t want to use the money you receive as a result of invoice factoring only to find that it will have to be repaid at a later date. That could create serious financial difficulties within your company.
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When the Customer Doesn’t Pay the Invoice
There is always the chance that one or more of your customers won’t pay the factor. It does happen. Often many companies within the same industry will face financial hardship at the same time due to economic influences. Your customers could be suffering financially. Understanding what will happen should the customer default and fail to pay will depend on the terms in the invoice factoring agreement. You should check your liability carefully. But will likely depend on whether yours is considered a‘recourse accounts’ and ‘non-recourse account’.
When the Customer Doesn’t Pay: Non-Recourse Account
If your agreement with the factor establishes a non-recourse account, then the invoice will be the responsibility of the factoring company to seek payment on delinquent invoices. If the customer fails to pay, the factor company loses out, but your company will not be penalised. Thus, you can feel free to spend all monies paid upfront by the factor without fear of being held accountable for your customers’ failure to pay.
When the Customer Doesn’t Pay: Recourse Account
If you have established a recourse account with the factor, you can be held accountable if the customer doesn’t pay on an outstanding invoice. In some cases, this is the only type of agreement offered by a factor firm. In other situations, the recourse account will pay a larger percentage of the value of the invoices because of the added security for the factor.
Recourse Option: Buy Back the Invoice
It is important to realise that there is typically more than one form of payment on delinquent customer accounts. You may buy the invoice back and seek payment directly from the customer. There are several potential legal actions that can be taken when invoices are significantly overdue.
Recourse Option: Swapping Invoices
If you don’t have the funds available to buy a delinquent account, you may have the option to swap out invoices. Essentially you are giving the factor another of your accounts receivable in return for that which has been ruled delinquent.
Liability for Unpaid Factoring Invoices: Summary
- Carefully consider your invoice factoring options
- Establish a mutually pleasing agreement with the factor
- Set up an account through which you will be paid
- Be sure that you understand the type of agreement. If it is a recourse account, you will have to be more careful with the spending of the funds paid by the factor, especially if you have reason to believe a customer will not pay.