When a business comes up short on cash they have the option to sell their accounts receivables to get cash now. Companies who provide this type of financing are referred to as Factoring Companies. This service comes at a price, but it can be an easier way for a business to get cash without trying to get a line of credit at a bank.
Many small business keep a relationship with a factoring company for times when they come up short on cash. It's common to experience a shortage of cash due to longer than average aging accounts receivables, large payroll expense and high carrying costs.
As a bookkeeper to small business owner's, I often see a lot of mistakes when the data is inputed into the accounting software. Understandably, since the reports from the factoring company are meant to track their company debits and credits, not yours.
So lets break this down.
First, we need to make sure you have the correct accounts in your Chart of Accounts. These should be:
- Factored Invoice Reserve Account - an asset account
- Factored Invoice Hold Account - an asset account
- Factored Invoice Sold Account - a current liability account
- Factored Fee Expense Account - an expense account
Now, lets make an assumption that the factoring company will only advance you 80% of the total invoice until its paid and they charge a fee of $100. Keep in mind the fee usually increases the longer the invoices ages, but lets make this simple for this example.
January 1: You sell a $10,000 invoice and submit this request on Schedule A to the factoring company. The request is approved and money is sent to your bank account. The journal entry today should be:
- Debit Cash - $8,000 (80% of $10,000.00)
- Credit Factored Invoices Sold Account - $8,000
Cash increases and so does the factored invoices sold account. This accurately reflects that the company has borrowed money against the accounts receivable on the balance sheet.
January 30: The $10,000 invoice is paid and you receive a collections report issued by the factoring company. The journal entry today should be:
- Debit Cash or Factored Invoice Hold Account - $1,900
- Debit Factored Fee Expense Account - $100
- Debit Factored Invoices Sold Account - $8,000
- Credit Accounts Receivable - $10,000 (done automatically by receiving payments into Quickbooks or Xero)
Cash has increased less the amount of the factored fee expense. The accounts receivable and factored invoice sold account are effectively "zeroed out" and all Debits = Credits.
If you are like many other businesses who struggle to keep your bookkeeping records accurate, please contact me for a free consultation. I specialize in helping business owners keep organized and accurate bookkeeping records.