What is Factoring Agreement Drafting?
A factoring agreement is a legal contract in which a business sells unpaid customer invoices to a financial company, known as the factor, at a reduced price to gain immediate money.
This serves to provide the business with required cash flow so they don’t have to wait months for clients to pay their invoices. The factor will get paid later when customers pay their invoices.
Read the rest of this article to learn how to draft a factoring agreement so that everything it contains is clear and you can minimize your risk of legal disputes.
It’s important to understand all the terms that appear in this agreement to prevent ambiguity or miscommunication. We’ll also look at why you should consider hiring a lawyer to draft a factoring agreement for you.
What Key Terms Should You Include in a Factoring Agreement?
A factoring agreement usually contains the following information:
- Advance rate. This is the percentage of the invoiced amount the factor pays upfront. It can be around 70 or 90 percent, but it depends on the agreement.
- Factoring fee. This is basically the cost of the arrangement. It’s calculated as a percentage of the invoice value per transaction.
- Reserve account. This refers to the percentage of invoice value that will be held back until the customer pays the invoice.
- Recourse vs. non-recourse provision. This is important to distinguish in your agreement as it determines who will be responsible for any losses on unpaid invoices.
- Notice of assignment. A common clause in factoring agreements is a notice of assignment, which informs the client that their invoice was sold and payment must be submitted to the factor.
- Concentration limit. This places a limit, or cap, on factored receivables you can gain from one customer.
- Minimum volume commitment. This states that a certain value of invoices must be factored per month. It’s commonly included in an agreement if the business earns seasonal revenue.
- Termination. Specify how parties can end the agreement early and how much notice is required.
- Default and remedies. If there is a default, such as a missed payment, the agreement should state what the factor can do, such as charging penalties.
- Dispute resolution. The agreement should state what happens if there are disagreements between parties. It should include a dispute-resolution method, such as arbitration and mediation.
What are Additional Tips for Drafting a Factoring Agreement?
Once you’ve established the key terms in a factoring agreement, you should elaborate on them to cover your bases. Here are some things to consider during the drafting process.
Describe the Invoice
Your factoring agreement should include details about the invoice, such as its value and date of payment. It’s advisable to include documents that support the receivables, such as purchase orders or invoices, and attach them to the agreement for clarity.
Consider Invoice Eligibility
The contract must specify which invoices are eligible for factoring. These include invoices that provide payment certainty, such as those from completed sales that have been accepted by the customer.
Explain the Fees
There are fees and costs associated with invoice factoring, which must be specified for clarity. Some of the main costs include factoring fees, which are a percentage of the invoice amount to pay for admin and collection. There are also additional fees, such as credit check fees and termination fees.
Consider Factor Duties
The agreement should include what responsibilities will belong to the factor, such as invoice collection and debt recovery if there are late payments. Describing these duties in the agreement prevents ambiguity.
Distinguish Between Recourse and Non-Recourse Factoring
It’s important to specify if your agreement is recourse or non-recourse factoring.
- Recourse factoring. This is when the business is responsible for invoices that are unpaid. So, if the customer does not pay, the business will have to pay the factor or replace the invoice with a different one, provided it’s eligible.
- Non-recourse factoring. In this arrangement, the factor is responsible should there be non-payment. While this can give business owners peace of mind, it does have higher fees as the factor carries the risk.
Do You Need a Lawyer to Draft Your Factoring Agreement?
To avoid hidden risks and costs, a lawyer can help you with the drafting of your factoring agreement. They’ll conduct various activities during the drafting process, such as:
- Drafting clear and enforceable terms that define the parties’ rights and duties.
- Structuring the transaction so that there’s clarity about how invoices are purchased and paid.
- Clarifying your risks, such as by explaining the difference between a recourse and non-recourse factoring agreement.
- Protecting your business interests, such as by including provisions related to liability and indemnification.
- Addressing customer notification requirements, such as by outlining how and when customers will be informed that their invoices will be assigned to a factor.
- Complying with all relevant laws. A lawyer will ensure that the agreement terms meet the applicable commercial and contract requirements.
- Customizing the factoring agreement to your specific invoices, factoring arrangement, and industry.
Where to Find a Lawyer for Factoring Agreement Drafting
Once you’ve decided to hire a lawyer to draft your factoring agreement, you might be unsure of where to find one who's experienced in contract drafting. Online legal marketplaces such as ContractsCounsel make finding and hiring a lawyer an easy process.
ContractsCounsel is one of the largest online legal marketplaces that gives you access to a curated network of vetted lawyers.
Here are the steps to follow if you want to request that a lawyer on the ContractsCounsel drafts your factoring agreement:
- Go to the ContractsCounsel marketplace.
- Post your project for free. Include a few details to help you find the most suitable lawyer, such as the reason for the factoring agreement.
- Wait for bids. You’ll receive multiple bids from lawyers directly on the platform.
- Review the lawyers’ profiles. The platform provides lawyer information you can read through before hiring one, such as the lawyers’ location, client ratings for previous projects, expertise, and credentials.
- Connect with a lawyer you think is best suited to your requirements and hire them to draft your factoring agreement for a flat fee.