INVOICE Factoring BASICS: Understanding the risk and rules IN 2026
The Ultimate 2026 Guide to Understanding Invoice Factoring & Risk: How to Protect Your Cash Flow while Managing Exposure
Running a business today means juggling more moving parts than ever, employees, customers, suppliers, cash flow, financing, marketing, disputes, chargebacks, deductions and regulation… and that’s on a good day.
What most owners don’t realize is how closely all these pieces connect behind the scenes. The mix of customers you sell to, the way they pay, the deductions they take, and even how your financing is structured all play a huge role in your company’s financial stability.
Too much revenue tied to one customer? That’s concentration risk. Unexpected short-pays or chargebacks? That’s dilution and offsets. And when you rely on invoice factoring for reliable cash flow, the type of agreement you choose, recourse or non-recourse determines who carries the risk if something goes wrong.
This guide breaks down important considerations when considering invoice factoring in plain English so you can understand how they impact risk, ongoing funding and your ability to grow with confidence.
Why Customer Concentration Matters More Than You Think
Imagine having a client that represents half your revenue. The relationship feels great until it doesn’t.
When too much of your business relies on a single customer, your cash flow, borrowing power, and financial stability become vulnerable. Losing or simply a delayed payment from that customer can disrupt everything from payroll to vendor payments.
That’s why lenders and factoring companies look closely at concentration. They want to know:
- How balanced is your customer mix?
- What percentage of your receivables comes from each account?
- Would losing one customer sink you or just sting a little?
In finance, predictability equals stability. And nothing is more predictable than a diversified customer base.
Why the 20% Customer Concentration Rule Exists
Most lenders and factors use 20% per customer as a healthy benchmark. It’s not a hard law, but it’s widely accepted because it quickly shows how much risk your business carries.
Here’s why 20% matters:
1. It Limits Dependency
If one customer accounts for less than 20% of your revenue, a slowdown is manageable not catastrophic. You can adjust, regroup, and keep operating.
2. It Signals Stability to Lenders
From a factor’s perspective, high concentration equals high risk. If one client represents 40%, 50%, or even 70% of your receivables, that client essentially controls the fate of your business and dramatically increases a factoring companies’ risk. A balanced customer base shows your revenue is steady and diversified.
3. It Boosts Borrowing Power
Businesses with healthy concentration levels often qualify for:
- Higher advance rates
- Lower discount fees
- Faster reserve releases
- Fewer verifications
An invoice factoring company is always more comfortable funding a diversified receivables portfolio.
4. It Encourages Healthy Growth
When you’re not overly dependent on one “whale,” you’re incentivized to keep prospecting, adding new accounts, and growing safely.
5. It’s a Universal Lending Standard
Whether you’re dealing with a bank, lender, or factor, the 20% rule helps everyone evaluate risk quickly and consistently.
How Factoring Companies Evaluate Customer Concentration
When a factor reviews your receivables, their first step is analyzing exposure by customer.
Example:
- Total receivables: $500,000
- One customer owes: $100,000
- Concentration: 20%
If a customer exceeds the target concentration limit (usually 20–25%), a factor may:
- Cap the advance on that customer’s invoices
- Hold back more reserves for protection
- Require credit insurance
- Increase verifications
These adjustments benefit both parties while reducing your risk and the factor’s risk if your largest customer slows down or defaults.
Key Takeaway:
Keeping each customer below 20% isn’t just a “lender rule.” It’s a smart business move that protects your cash flow and makes you more fundable.
Dilution & Offsets: Why Factors Don’t Advance 100%
Every business deals with invoice disputes, deductions, or the occasional short pay. In the factoring world, these adjustments are grouped into two categories:
Dilution
Predictable deductions the industry expects, things like early payment discounts, marketing allowances, volume discounts and retail allowances.
Offsets
Unexpected deductions or non-payments that weren’t anticipated or disclosed ahead of time.
Factors expect some level of dilution. Offsets, however, are where tension can show up especially if the client knew about a problem but didn’t report it.
How Invoice Factoring is Different than a Loan
Many people think invoice factoring is a loan, it’s not.
Factoring is actually a legal purchase and sale (link to factoring is not a loan page) of invoices.
- You (the Seller) issue invoices for completed work.
- The factoring company (the Buyer) purchases those invoices at a discount and gives you cash upfront.
- The factor collects payment directly from your customers.
There is no borrowing from an invoice factoring company. This structure keeps your balance sheet cleaner because you’re not adding debt, you’re simply accelerating cash flow.
THE ROLE OF THE NOTICE OF ASSIGNMENT (NOA)
A Notice of Assignment (NOA) is a critical component of the invoice factoring process. This letter lets your customer know:
- Invoices have been sold and assigned.
- Payment must be sent directly to the factor.
- The factor is now the payee of record.
Under UCC §9-406(a), if a customer pays anyone except the factor after receiving an NOA, the debt is legally not discharged. No customer acknowledgement is needed. The NOA alone is binding.
Recourse vs. Non-Recourse Factoring: What’s the Real Difference?
The differences are stark and often misunderstood, so here’s the plain-English version:
Recourse Factoring
- You’re responsible if the customer doesn’t pay.
- Lower cost.
- Fewer restrictions.
- Invoices must be replaced or repurchased if unpaid.
Non-Recourse Factoring
- The factor absorbs losses due to customer insolvency if insured.
- Customer must be credit-insurable.
- Disputes are never covered.
- Costs 15–30 bps more.
- Coverage can be reduced or revoked at any time.
Which is more suitable for your situation?
It depends on customer concentration.
If one customer represents 30–40% or more of your sales, non-recourse may be worth the added cost if the factor can insure them.
If your customer base is well diversified, recourse is usually the smarter, cheaper option.
Understanding UCC-1 Filings
A UCC-1 is the commercial equivalent of a lien or mortgage. It tells the world:
“This lender has a claim on these assets.”
Factoring companies typically file a UCC-1 because they must be in first position on your receivables to legally buy your invoices.
Marc Marin is a seasoned expert in business financing, author, speaker, and educator with over 20 years of experience helping companies access working capital through factoring and funding solutions. He is known for making complex financial topics clear and actionable for business owners and finance professionals.