Is Factoring too Expensive?
Some people may say you’re paying 36% annual percentage rate (APR) on monthly invoices at a 3% rate. Is that really the case? Let’s look at it.
Factoring is a common way to manage cash flow, which is especially important for motor carriers who need to cover fuel, payroll and other operating expenses long before shippers and brokers pay freight bills. Factoring companies also handle all the invoicing and collections for carriers.
“If you don’t mind waiting, you can get paid in 30 days, but as a small trucking company we need it quicker,” says Lexi Howard, manager of Buffalo Trucking, a five-truck refrigerated and dry-van fleet based in Memphis, MO.
A common myth is that factoring is too expensive. The truth is that different factoring companies have different rates for their services. Some factors come with a flat rate based on the size of your fleet, and some offer a lower initial rate with additional sign-up and ACH fees.
Some factoring companies that specialize in transportation have developed technology that lowers the costs and risks of funding.
Fee structures are now as low as 3% of the invoice amounts for the smallest fleets (1-3 trucks). While current rates are much lower than in the past, a 3% fee may still seem too expensive for advanced funds for invoices with 30-day payment terms.
In practice, a freight bill with a 30-day payment term will typically be paid out in 35 to 40 days from load delivery. Add another 5 days to receive payment in the mail by paper check, and the APR for a 3% factoring fee is actually closer to 24% (3%*360/45)!
Is 24% high? Well, it usually depends on the long term. The APRs of short-term and long-term loans are not fair comparisons. Longer term loans will always have lower interest rates. For instance, a credit card with a 30-day billing cycle has a higher interest rate (~20%) than a bank line of credit (~9-13%) or a mortgage (~5%). So compared to your credit card, the factoring rate is already not that high! The higher rate covers the factor handling the invoicing and collections for you. There are many benefits rolled in to the 24% rate.
When deciding between factoring services, carriers will find some have low rates but charge additional fees to set up a new customer or to wire money, among other things. Others have flat fees with no hidden charges.
Before factoring, one has to weigh the benefits of factoring and the rate paid for factoring. Same-day payments at a 3% fee allows you to build your savings and pay drivers sooner to keep hauling.