Concept and differences between factoring and reverse factoring

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First of all, we should note that reverse factoring in spanish is known as confirming.

Factoring is a contract whereby an entity[1] undertakes to manage the collection of loans from a client, in which the service can include, besides management service (administration), the advance of its loans and ensure recovery of a portion or the total amount of these.

The parties to the factoring contract are two, the client and the entity known as factor. Therefore, as we had seen in the post “Sobre la cesión de créditos”, the debtor is outside the factoring agreement, in which it is not necessary  the consent of the debtor, without detriment of the notification to the debtors affected by the contract.

As we already advanced, there are three kinds of basic benefits under these contracts: i) just an administrative management, ii) financing, which means paying before the maturity (with interests in the entity’s profit) and iii) total or partial guarantee, in which the entity assumes the risk of default on the loans, even in case of insolvency. Depending on how the credits are guaranteed we can distinguish between non-recourse factoring and recourse factoring. With the first one the bank assumes the risk of insolvency and, therefore, cannot exercise a right of reimbursement against the client. Instead, if it’s agreed with recourse, the entity won’t be responsible for unpaid amounts, so it may exercise a right of reimbursement against the client.

In reverse factoring we are facing a similar figure to factoring, but in this case the client is a debtor of its suppliers (instead of a creditor). Therefore, reverse factoring is a contract by which the entity provides a management service and also a financing service to his client and the suppliers of it, while assuming payments. Furthermore, by reverse factoring the bank will also accept receipts before maturity and thus charge the interests for the service provided.

As we have seen, in a reverse factoring there are more parties than in a factoring, as well as the entity and the client there are the suppliers. It is also important to notice that the way to get money by the entity differ according to the type of contract. In the reverse factoring the entity need to be active and sell advance payments to suppliers to collect interests.

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[1] The entity is a Bank or a Credit institution (in spanish Establecimiento financiero de crédito).