True Worth of Non-Notification Factoring

The Lure of Non-notification Factoring

Factoring companies who offer non-notification solutions hope to attract businesses who do not want to reveal to customers that they use factoring. In this case, account debtors do not receive a notice of assignment directing them to remit payment to the factoring company. Instead, unbeknownst to the debtor, the debtor’s payment is redirected to a new lock-box. While this may seem like a simple way around disclosure, it carries considerable risk for the factoring company.

Legal Protection Under the Uniform Commercial Code

Under the Uniform Commercial Code, factors are legally established as the new assignee when they provide notice to the debtor that they now own the accounts receivable.[1] As long as notices of assignment “reasonably identify the rights assigned” [2], factors simply need to show they have sent a notice, while debtors do not have to acknowledge that they have received it.

Risky Business

Should factors choose not to provide notice, they may relinquish their right to dispute a nonpayment or payment mistakenly made to the seller. In this case the account debtor’s best defense of nonpayment would be a lack of proper notice or ineffective notice of assignment. Furthermore, the factor becomes vulnerable to “client diversions” [2], in which case the client receives cash from accounts sold to the factor, but does not redirect it to the factor.

According to The Commercial Finance Institute’s Marc J. Marin, non-notification programs are an “extremely risky practice” and “only a sales tool” reserved for truly well-established, large companies.[3]

The Cost of Non-notification Factoring

Of course, factoring companies compensate for this added risk with higher fees, lower advance rates, and other legal means to assure they are paid. For instance, a “Factoring Agreement” can stipulate that payments received by the seller must be immediately delivered to the factor. Although all factors, even with notification, have such provisions.

Most likely, factoring companies will require more stringent qualifications of potential clients applying for this service. For example, non-notification factoring may only be offered to specific industries like services or manufacturing, rather than goods, which are prone to returns or warranty issues. Other requirements usually exist to insure the seller has solid credit, a diversified client base, a history of recurring clients, efficient management, and low debt-to-income ratio. The best candidates for non-notification programs are established businesses who simply need factoring to support growth.

How Often is Non-notification Factoring Actually Used?

Less than 5% of American factoring is distinctly classified as non-notification [4], yet rarely would any seller want to draw a customer’s attention to the use of factoring. Therefore most factoring companies make an effort to conceal their role, even if they are offering the standard “notification” factoring service. For example, many factors will make verification calls “on behalf of” the seller without mentioning the name of the factoring company. Furthermore, most factoring companies are willing to use the seller’s letterhead even after they have sent the debtor the notice of assignment. While non-notification factors may not immediately send out a notice of assignment, account debtors are notified in the event of default or other issues with payment. [3]

Considering these blurred lines between notification and non-notification, potential clients may not find the premium cost worth it simply to avoid the original notice of assignment.

  1. Uniform Commercial Code § 9-406. (2012, November 20). Retrieved March 03, 2017, from https://www.law.cornell.edu/ucc/9/9-406
  2. D. Tatge, D. Flaxman, J. Tatge, American Factoring Law. BNA Books, 2009.
  3. M. Marin, Factoring: A Training Guide to Secured Financing
  4. “Business Profile Performance Survey”, International Factoring Association, 2015.

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