Most factors will require you to sign a contract which acts as a security agreement. The contract outlines:
- The financial terms of the agreement. This includes the amount you receive up front, the discount rate, and how often you will use the factor's services in the allotted time.
- Your collateral. Factors consider your accounts receivable as your main source of collateral, but may also do a blanket lien against all of your company's assets.
- Default provisions. This covers fraud, non-payment, and various circumstances to ensure the factor gets paid. You will then have to satisfy the debt by paying the invoice out of pocket or providing a substitute invoice of equal or greater value.
Make sure to read the contract carefully to make sure there isn't anything that looks questionable. Are the advance rates and fees clearly spelled out? Do you see any hidden or ambiguous fees? Will you have to factor a certain number of invoices? Having a lawyer review the contract can be a good idea since this arrangement significantly affects your company's revenues.
Contract lengths varies based on your needs. If you only need occasional factoring services, you can get a month-to-month agreement. If you will depend on frequent factoring services, a six-month or one-year contract will provide you with more leverage for negotiating a better discount rate.
Some factors may require a contract even for one-time factoring. Make sure the contract is an open-ended agreement. This will save you from paying duplicate set-up fees if you need to factor in the future.