The Difference Between Loans, Cash Advances and Factoring

The Difference Between Small Business Financing Options

Getting the right financial product for your small business is important. However, entrepreneurs should be careful about which small business financing options they choose. Some make more sense for your company than others. Small Business Trends talked with Hanna Kassis an expert at Segway Financial about how to differentiate between loans, cash advances and small business factoring.

Though sometimes called an invoice advance loan, the name is incorrect.

“The biggest difference is cash advances and factoring are not loans, although sometimes they’re disguised as loans,” Kassis says. The trick for small business owners is in understanding how to pick the financial product that works to make their situation better.  Choosing the wrong path can lead to deeper financial issues if your small business is in some trouble to begin with.

Here’s a chart showing the benefits of  the various types of financing depending upon your business needs:

Small Business Financing Options

When looking at the options for financing your small businesses, perhaps the most important thing to learn is the difference between loans and advances. How do these two forms of financing compare and which is best for your business.

The Difference Between Loans and Advances

Small Business Loans and FICO

There are some fundamental differences. For example, small business loans report to the credit bureaus about the credit of the business and not the owners. These are generally the way to go when you’re looking to make a long term investment in your business.

A good FICO score is required. All your company assets can be used as collateral and funding usually takes about 3-7 days. Use these when you’re on a stable footing financially and looking to grow or expand. Small business loans are a great way to replace outdated machinery and even build a new wing.

Miss a payment on one of these and it gets reported on your business credit. With the other two types, that kind of slip up gets reported on your personal credit.

Merchant Cash Advances and Small Business Factoring: For a Different Set of Needs

These other products have a different set of requirements. A merchant cash advance is a good product for an emergency financial situation. Factoring is the right tool to match income and expenses. With the merchant cash advance, cash flow history is required but your small business doesn’t need to supply any collateral.

Small business factoring, on the other hand, requires actual invoices and those receivables and invoices are used as collateral. Hence the reason this is sometimes called an invoice advance loan.

Kassis notes another difference between the two products.

“Companies that qualify for factoring are typically B2B under unfavourable terms,” He says. “That delayed payment could be a result of the seller offering it to get business or the vendor offering it because they’re spending enough money they can dictate the terms of the deal.”

Say you’re selling bolts to a manufacturer. They’re buying in volume and keeping you busy, but not paying for terms of 30, 60 or 90 days.  Factoring allows you to use an invoice advance loan to help you over temporary cash crunches. Products like the invoice advance loan generally take about 2-5 days to process.

Sending Invoices

If you send invoices, you have a wider range of options. Those choices are limited for businesses like grocery stores if they accept cash up front.

“Businesses with invoices will qualify for factoring, cash advances or a loan,” Kassis says. “Businesses that don’t invoice can only get a cash advance or a loan.”

So here’s a bit more merchant cash advance info to consider.

Cash advances are the quickest solution to get but you need to be careful when you make a decision to go after one of these. There is no collateral needed here and the time to fund is quick at 1-3 days. However, Kassis is clear small businesses need to take a good look at why they’d need this type of money before they act.

“The cash advance is the catch-all. With about $10,000 a month from any source, you can probably get one of these products.”

Cash Advance Catch-all

However, there’s a big caveat to this catch-all. Kassis explains this is a great product for seasonal businesses and restaurants in tourist areas. Both of these small businesses might need some cash ahead of their busy season.  He’s clear, however, a cash advance won’t stop a downward business slide.

“If you’re struggling, a cash advance will put you out of business,” he says.

In conclusion, understand what kind of financing you’re looking for when examining the different options. In particular, know the difference between loans and advances and which is right for your business.

So What About the Invoice Advance Loan?

Again the invoice advance loan is not a loan at all but an advance against future earnings reflected in a business’s invoices. So understand these critical differences before deciding on the kind of financing you seek.

Factoring Photo via Shutterstock
Chart courtesy of 3 Comments ▼

Rob Starr Rob Starr is a staff writer for Small Business Trends. Rob is a freelance journalist and content strategist/manager with three decades of experience in both print and online writing. He currently works in New York City as a copywriter and all across North America for a variety of editing and writing enterprises.

3 Reactions
  1. Excellent summary article to help small business owners gain a better understanding of the types of lending available! Wish I had wrote it.

  2. Loans, Cash Advances and Factoring are the different types of financing option for a business man. Everyone needs a basic investment to run his business successfully. Whether you need the money for business hiring, development, marketing and promotion, equipment purchases, advertising, payrolls, or overheads, the business loan will help you for that. Last month one of my cousins got small business finance by “WATER STREET CAPITAL” in a low rate of interest. Now he handles successfully his business.