What Is Accounts Receivable (AR) Financing?

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Accounts receivable financing, or AR financing, allows businesses to borrow against their unpaid invoices in exchange for short-term funding. Essentially, the lender advances a small business loan or line of credit, and the business’s unpaid invoices are used as collateral to secure the funding.

This type of financing can be very useful for businesses that need to cover gaps in cash flow or other short-term expenses. Jump ahead to compare lenders and alternatives or keep reading to learn more.

Key takeaways

Accounts receivable (AR) financing allows businesses to borrow against their unpaid invoices in exchange for a short-term cash injection.
Annual percentage rates (APRs) for this type of financing can be higher than other loan types
AR financing is usually a good fit for B2B companies and B2C companies with customers who pay on time.

How does accounts receivable financing work?

Accounts receivable financing is a type of asset-based lending where a company’s unpaid invoices — accounts receivable — act as collateral.

With an accounts receivable loan, your lender advances a percentage of the invoice value — potentially up to 97% — as either a term loan or line of credit. Then, when your customer pays their invoice, you pay back the loan, plus any fees and interest.

Here’s a step-by-step look at how AR financing works.

Apply for accounts receivable financing. First, you decide which invoices to submit as collateral to a lender. It’s best to only use receivables from customers who are reliable and have a history of paying their invoices on time. If you’re working with new customers or are uncertain about the reliability of existing customers, it’s best to wait until they are more established.
Get funded. Once your application is approved, the AR financing company will tell you your advance rate or the percentage of your invoices that you can receive upfront. This rate can potentially be as high as 97%. If you accept it, along with any other financing terms, you’ll typically get the advance amount via direct deposit.
Your customer pays your invoice. With an accounts receivable loan, your customer pays you directly for the invoice they received, meaning you still retain ownership of it. This is different from the process of accounts receivable factoring, where instead of receiving payment from your own customer, the factoring company pays you for the invoice and then collects payments from your customer.
You repay the accounts receivable financing company. Once your customer pays the invoice, you pay back the loan or line of credit plus a fee and/or interest. If your customers pay your lender directly, your lender will send you the remaining percentage of the invoice minus interest charges or fees that you’ve incurred.

Types of accounts receivable financing

Accounts receivable financing typically falls into two major categories: factoring and loans.The biggest difference between the two is how the invoices are used.

Invoice factoring. Invoice factoring is a form of AR financing in which a company sells its invoices to a factoring company in exchange for immediate cash. The factoring company then collects payments directly from the company’s customers and pays back the loan over time.
Accounts receivable loan. This is a type of asset-based lending that allows you to use your receivables as collateral for a lump-sum loan or a line of credit. Your receivables work as collateral, which means you maintain ownership of the invoices and collect payments directly from your customers.

Some companies will use the term “accounts receivable financing” to refer to factoring, while others will use it to refer to a loan. Make sure you understand which you’re signing up for before choosing a lender.

Understanding AR financing fees

Instead of charging a true business loan interest rate, AR financing lenders typically charge a fee — usually expressed as a percentage of the invoice — for each week the invoice goes unpaid. This fee is typically referred to as a factoring fee or discount fee. That’s why, if you’re going to go this route, it makes sense to finance invoices from customers with timely payment histories.

Over time, going this route can be more expensive than other types of business financing. This is particularly true if you plan to finance long-term to improve your cash flow. Compare lenders before signing any contract to get the best deal, and make sure you have enough profit margin to cover any fees without going into the red.

Who is accounts receivable financing for?

For AR financing to be successful, your business needs a steady flow of invoices and reliable customers who pay their invoices on time. Otherwise, it can be difficult to keep up with payments.

It can be an attractive option for businesses that can’t get approved for a traditional small business loan. Because the invoices serve as collateral, lenders may be willing to work with you, even if you have a low credit score or no prior borrowing history.

This type of funding is usually a short-term financing option. This means it’s usually best for short-term working capital needs, not for long-term financing needs like buying real estate.

Pros and cons of accounts receivable financing

If your business credit history is lacking, but you have high-quality customers or are a B2B company, accounts receivable financing might be right for you. You’ll want to consider the advantages and disadvantages so you can decide if it’s the right option for your business.

Pros

Quick access to cash. There isn’t a lengthy loan application and underwriting process, so you can get the financing you need fairly quickly.
Minimal credit requirements. Your invoices act as collateral, which means lenders are more concerned about your customers’ creditworthiness and payment history, so you usually don’t need a good credit score to qualify.
Lower risk than other financing options. Because you’re borrowing against money already owed to your business (rather than future sales that aren’t guaranteed), the risk of not being able to repay the loan or line of credit is low.

Cons

Need quality invoices. Businesses without a steady stream of invoices and reliable customers may have a hard time qualifying for this type of financing.
Cost. Lenders may charge interest rates on the loan or line of credit, a funding fee based on the loan amount and other fees, such as application, maintenance and processing fees, that can add up quickly.
Risk of customers defaulting. If your customers don’t pay their invoices, you may be unable to repay your loan or line of credit, putting you at risk for late payment charges and other financial troubles.
Customers may be hesitant. If your agreement requires customers to pay your lenders directly, they may have questions about the arrangement or feel uncertain about their invoices being used as collateral.

3 accounts receivable financing companies to consider

If your business needs help covering cash flow gaps, start by getting quotes from multiple lenders. This lets you compare the advance rate, fees and terms to get the best deal before committing to a lender.

Here are a few options to get you started on your research:

SBG Funding

SBG Funding is an online lender that specializes in providing flexible funding to those who may not qualify with a traditional lender. Its invoice factoring offers up to a 90% advance on eligible invoices, and rates start as low as 0.25% per week.

Read our full SBG Funding review .

TD Bank

TD Bank’s business line of credit requires borrowers to use their accounts receivable as collateral. Rates are variable, but you can access up to $500,000 worth of funding and, once you pay down your balance, you’ll be able to borrow against the line again, making it a good fit for those who need to cover ongoing expenses.

Read our full TD Bank review.

1st Commercial Credit

1st Commercial Credit specializes in accounts receivable financing for manufacturers, service providers, distributors, transportation companies and exporters. It can lend up to 97% of the invoice value. The lender offers both accounts receivable loans, a type of asset-based lending, and accounts receivable factoring.

Learn more about 1st Commercial Credit.

How to apply for accounts receivable financing

Here are some simple steps you can take to apply for accounts receivable financing.

1. Evaluate your invoices

If you can choose which customers to submit for accounts receivable financing, choose those who usually pay their bills on time. Avoid choosing invoices from new or unreliable customers.

2. Compare lenders

You can get quotes directly from lenders by calling or visiting their website or use a marketplace like LendingTree to get quotes from multiple lenders quickly.

Once you have quotes from several lenders, compare them and look for lenders who offer a high advance rate and low service fees.

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3. Gather the required documents and submit

While the documentation requirements vary by lender, some common ones include:

Your accounts receivable aging report
Basic business details, such as your business license, articles of partnership or incorporation and your employee identification number (EIN) or tax identification number
Copies of recent tax returns or bank statements
Information about outstanding invoices

The lender may also check your business and personal credit score when you apply.

4. Get funding

Getting approved for accounts receivable financing and setting up your loan or line of credit may take as long as three or four weeks. But once approved, you’ll receive your funds in a matter of days.

You’ll then have to repay the borrowed amount as well as any interest or fees, usually within a few weeks or months. Typically, your customers will pay you directly, and you then pay the lender what you owe.

Is accounts receivable an asset?

Yes, accounts receivable are considered current assets. Receivables, such as invoices, indicate that the company has made a sale but has yet to collect the payment owed. It’s essentially like entering into a short-term IOU agreement because the customer is legally obligated to pay what they’ve promised.

This legal obligation is what allows AR lenders to consider accounts receivable as an asset, even though the borrower doesn’t have the money in hand. Lenders will typically use a UCC filing to secure a lien on your accounts receivables.

Alternatives to accounts receivable financing

If accounts receivable financing isn’t the right choice for your business, here are some alternative options:

Merchant cash advances (MCAs): Merchant cash advances will use a percentage of your credit card sales to advance the money you need. However, like AR financing, these companies can charge higher interest rates.
Short-term business loans: If you have a decent credit score, you may be able to qualify for a short-term business loan, which may offer the funding you need with more affordable interest rates.
Lines of credit: While some lenders offer lines of credit that use your accounts receivable as collateral, you can also get funding that’s unsecured or uses other types of collateral.

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How does accounts receivable financing work?
Types of accounts receivable financing
Understanding AR financing fees
Pros and cons of accounts receivable financing
3 accounts receivable financing companies to consider
How to apply for accounts receivable financing
Alternatives to accounts receivable financing