Factoring government receivables works just like factoring any other invoice. By transferring a portion of the invoice to a factoring company, a business can access money quickly. Here are some advantages of factoring government receivables. These companies are often more affordable than banks, and many people prefer the fast access to funds that factoring provides. But there are limitations to factoring government receivables.
Non-recourse factoring
Non-recourse factoring eliminates the risk of non-collection by buying your invoices outright. The factor runs a credit check on your customer to determine whether you are likely to receive payment for the invoice. Otherwise, you wouldn't get paid. As a trucking company in Texas, we experienced rapid growth due to the shale oil boom. Our water hauling trucks needed specialized drivers and we couldn't keep up with the demand.
While non-recourse factoring allows you to keep your business accounts payable in good standing, the type of protection you receive is limited. Some factors have more liberal definitions of insolvency, and they may absorb some of your loss even if the customer doesn't declare bankruptcy. Some people mistakenly believe that non-recourse factors absorb their losses in the event of payment disputes. However, this is not true. If you're a government agency, there's no factoring company that will absorb your loss if the customer doesn't pay. Instead, if a dispute comes up, the factor will return the invoices and require you to pay fees.
Limitations
A common way to access capital for government contractors is to factor their accounts receivables. Factoring enables government contractors to obtain funds quickly without incurring large upfront costs. Additionally, the financing is available to small businesses and SBA 8(a) organizations. However, factoring government receivables requires a little more discipline and prudence than traditional bank loans. Here are some of the limitations of factoring government receivables:
First, factoring has high risks. Some companies have a high debt-to-income ratio and may not qualify for a conventional loan or sufficient line of credit. In addition, factoring is not suited for small businesses that have low turnover and specialized items. Furthermore, factoring can be ineffective for developing countries, which lack professionalism and developed expertise. These disadvantages are common for any business, regardless of the industry.
Disadvantages
While factoring federal government receivables may seem like an attractive option, there are some significant drawbacks to consider. Factoring is costly, and many conventional lenders offer lower rates. The main disadvantage is that many service providers do not own inventory or have any physical property. Moreover, factoring agreements typically include a reserve, which is the difference between the upfront amount received and the total amount invoiced. If you receive $90,000 upfront, you will likely have to pay fees to the factor company.
However, factoring can benefit government contractors by providing immediate access to cash. While government contracts typically have long terms, many companies do not have the working capital to meet them. Using a factoring company can free up time to manage the business and handle expenses. It can also provide valuable information about your company's credit standing, which can help you negotiate better terms with suppliers. A factoring company can also help you prepare your financial plan and manage your business better.
Alternatives
One way to get immediate cash for government invoices is through factoring. If a government agency has paid a contractor $100,000 for a job, they might be interested in selling that receivable to a factoring company. However, this process requires that the contracting officer agree to the assignment. Factoring companies always run a credit check on their clients to avoid chargebacks. Therefore, it is important to research all options thoroughly.
One of the most common alternatives to factoring government receivables is a bank loan. If the government is slow to pay a vendor, this can cause a serious cash flow problem for a company. These companies can take out factoring financing to close that gap, which is a huge benefit for businesses. Factoring provides financing right after an invoice is issued, enabling them to continue running their businesses while waiting for government payments.