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Can Factoring Be Better Than A Bank Loan?

See Also:
What is Factoring Receivables
The Dreaded “F” word
Accounting For Factored Receivables
Journal Entries For Factored Receivables
Working Capital
Preparing a Loan Package

Can Factoring Be Better Than A Bank Loan?

What I have found is that normally a business owner who needs financing for the growth of their business start their financing search by looking for a business loan or a business line of credit from a bank. The reason is that business loans and lines of credits from a bank are well known products. However, due to the regulations imposed on the banking industries loans are very hard to get. What I have found in the real world is few businesses actually manage to get them unless they are collateralized by equity in real estate or equipment.

As a result, the accounts receivable and inventory financing needed in a growth mode is the most difficult financing to obtain from a bank. There is an alternative for such growth needs, which is factoring. Factoring is offered by commercial finance companies. In the vast majority of cases, factoring may be a better and easier solution to obtain than traditional bank financing to fund the growth of a business.

Determine if Factoring is the Better Alternative

To determine if factoring is a better alternative than a business loan you just need to ask yourself these questions:

1. Does my company provide goods or services that are completed when I invoice my customers?

2. Are my customers not paying within the credit terms I am offering?

3. Are you turning away sales because you do not have the cash?

4. With cash, is your business growth potential greater than 20%?

If your answers were yes to these questions, then factoring your accounts receivable invoices is better for you than a traditional loan that you can obtain from banks. Accounts receivable factoring provides a business with financing flexibility based on your sales. A properly structured factoring program eliminates slow payment cycles by providing your business with cash to grow your business.

As a business owner, you should be aware and open to all financing products available to you by either a bank or commercial financing company and choose the one that best fits your company’s needs.

For more tips on how to improve cash flow, click here to access our 25 Ways to Improve Cash Flow whitepaper.

can factoring be better than a bank loan
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Annual Percent Rate (APR)

See Also:
Effective Rate of Interest Calculation
Fixed Interest Rate vs Floating Interest Rate
Interest Expense
Carried Interests

Annual Interest Rate Definition

The Annual percentage rate (APR) of a loan is the yearly interest rate expressed as a simple percentage. A bank or lender quotes the rate or APR. The annual percent rate does not incorporate the effects of compounding.

The federal Truth in Lending Act requires all consumer loan agreements to show the APR in large bold type. This is to make it easier for consumers to compare borrowing costs from different lenders. However, the annual percentage rate may not be the most accurate representation of the cost of the loan.

If interest on the loan compounds more than once per year, then the annual percent rate will be less than the actual interest rate on the loan, which is called the effective interest rate or the effective annual rate (EAR). In order to see the true cost of the loan, it is necessary to convert the annual percentage rate into the effective annual rate.

Annual Interest Rate Equation

If the lender offers a loan at 1% per month and it compounds monthly, then the annual percentage rate (APR) on that loan would be quoted as 12%. The annual percentage rate does not include the effects of compounding, so it is less than what the borrower would actually pay. Below is the annual interest equation for APR.

12% = 1% per month x 12 months

APR = Rate per period x Periods per year

Effective Annual Rate Formula

If the lender offers a loan at 1% per month, and the loan compounds monthly, the effective annual rate (EAR) on that loan would be 12.68%. The effective annual rate does include the effects of compounding, so it is higher than the APR. The EAR reflects what the borrower actually pays in interest on the loan. Below is the effective annual rate formula.

12.68% = (1 + 1%)12

EAR = ( 1 + (APR/N)N ) – 1 

(Where N = the number of compounding periods per year.)

Convert APR to Monthly Interest

To convert annual rate to monthly rate, when using APR, simply divide the annual percent rate by 12.

Monthly Rate = APR / 12

If you want to add more value to your organization, then click here to download the Know Your Economics Worksheet.

annual percent rate

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Adjusted Gross Income Definition

See Also:
Financial Ratios
Operating Profit Margin Ratio
Net Profit Margin
Adjusted Gross Income
Margin vs Markup

Adjusted Gross Income Definition

The adjusted gross income definition (AGI) is a taxpayer’s gross taxable income. It consists of total income minus allowable adjustments. These allowable adjustments, also known as “above the line deductions,” reduce the amount of income used to calculate limitations on itemized deductions and other deductions and allowances.

Subtract standard or itemized deductions, also known as “below the line deductions,” from AGI to compute the taxable income amount. Taxable income is the amount used to calculate the amount of tax that must be paid. When referring to above the line or below the line deductions, adjusted gross income is the line.

Adjusted Gross Income = Total Income – Above the Line Deductions

Taxable Income = Adjusted Gross Income – Below the Line Deductions

Above the Line Deductions

Above the line deductions are the allowable adjustments subtracted from total income to get adjusted gross income. Then on page 1 of the 2007 U.S. Individual Income Tax Return Form 1040, these allowable adjustments are lines 23 – 35. Furthermore, some of these adjustments require further paperwork. But do not itemize above the line deductions.

Above the line deductions include items such as educator expenses, moving expenses, alimony paid, student loan interest, and other items.

Below the Line Deductions

Below the line deductions are the standard or itemized deductions subtracted from adjusted gross income to get taxable income. Then on page 2 of the 2007 U.S. Individual Income Tax Return Form 1040, find standard deductions in the left margin. Furthermore, you must list itemized deductions on a separate form.

Below the line deductions include items such as charitable contributions, mortgage interest, unreimbursed business expenses, IRA contributions, and other items.

Taxable Income Formula

Use the following taxable income formula:

Taxable Income = Total Income – Above the line Deductions – Below the line Deductions

adjusted gross income definition

IRS Link

IRS website: irs.gov

2007 U.S. Individual Income Tax Report Form 1040: irs.gov/pub

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Documents in a Loan Package

Requesting a loan to start a new business or expand an existing one requires the business owner to become familiar with the documents in a loan package. Once you have gathered the information and documents needed, knowing how to organize the loan package is the next step. Because presentation is key, this is actually one of the most important steps in the process.

Documents in a Loan Package

If you are trying to sell the idea that your company is worth investing in, then the loan package will be your first impression to the lender. They would be more apt to consider a loan package that is easy to read and follow, then one where information needed for consideration is hard to find and extremely difficult to decipher through. This means spending more time than they would normally spend when reviewing a loan package.

This brings us to our last point; only include information in the loan package that is relevant to the matter at hand. You do not want to include information that overwhelms the lender or wastes their time….get to the point. The goal is for your company to come across as a good investment for them and not an expense.

Click here for a link to an article that further discusses preparing a loan package.

For more tips on how to improve cash flow, click here to access our 25 Ways to Improve Cash Flow whitepaper.

Documents in a Loan Package
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Documents in a Loan Package

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Personal Credit: How Important For Business Loans?

Often business owners go to great lengths to pay the company’s bills on time. Often at the expense of their not taking a salary. When cash is tight which is more important; your company credit rating or your personal credit rating and why?

Personal Credit: How Important For Business Loans?

Bankers don’t like it but they understand when the economy goes south. Sometimes businesses can’t meet their financial obligations and need their banker to work with them. It is at these times that the banker resorts to the Five C’s of Credit for evaluating the risks.

When collateral is not there, nor the cash flow, the banker looks to the character of the borrower. The best indicator of a borrowers’ intent to repay is their personal credit history. If you keep your personal credit squeaky clean then you will probably do the same with your business credit once the economy returns.

So as you work with your companies to either maintain your business credit or obtain new credit sources make sure that the owners are maintaining their credit ratings.
Personal Credit: How Important For Business Loans?

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The 5 C’s of Credit

The 5 C’s of credit or 5C’s of banking are a common reference to the major elements of a banker’s analysis when considering a request for a loan.

The 5 C’s of Credit

Namely, these are Cash Flow, Collateral, Capital, Character and Conditions. This article will provide an in-depth description of each of the 5 C’s of credit or banking to help you understand what your banker needs to understand about your business in order to approve your loan. By the end of this article, you will have insight as to where your banker is coming from. Therefore, it better prepare you to handle their questions and concerns…

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If you want more tips on how to improve cash flow, then click here to access our 25 Ways to Improve Cash Flow whitepaper.

5 C's of credit
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FASB Chief to Propose Accounting Rule Change

In this blog, we look at how the FASB Chief to propose accounting rule change will impact your business.

FASB Chief to Propose Accounting Rule Change

The Chairman of FASB is set to propose that bank regulators be allowed to make adjustments to the financial statements of banks in order to determine whether those banks have met capital requirements, while requiring that those banks report to the investing public according to GAAP.

Naturally, the banks are in favor of this, yet investors should pay attention to the financial statements and not the pronouncement of regulators that a given bank has met its capital requirements through some “adjustments” to its loan portfolio.

If you want to overcome obstacles and prepare to react to external forces, then download the free External Analysis whitepaper.

FASB Chief to Propose Accounting Rule Change

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FASB Chief to Propose Accounting Rule Change

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