How a factor rate works
A factor rate is a decimal, such as 1.2 or 1.4, multiplied by the funded amount to give total repayment. The fee is set at the start.
Factor rates are used on many short-term working capital and revenue-based products. Instead of an interest rate that accrues over time, the cost is fixed when the agreement is signed. A 1.30 factor on $40,000 means you repay $52,000, and the $12,000 difference is your cost.
Because the cost is fixed, repaying sooner usually does not shrink it, unless your contract includes a prepayment discount. Read that clause before you sign. Our guide to the prepayment discount explains how those work.
Calculating total cost step by step
Multiply the factor by the amount received, then subtract the amount received. Then check whether fees are taken out of the amount you receive.
This is an illustrative example.
- Amount funded: $30,000.
- Factor rate: 1.25.
- Total payback: $30,000 x 1.25 = $37,500.
- Cost: $7,500, or 25 percent of the amount received.
If an origination fee of $600 is deducted before funds reach you, you actually receive $29,400 and repay $37,500. Your true cost is $8,100, which is about 27.6 percent of what you received. Always ask for the net amount that will land in your account.
Write the same four numbers for every offer you see: amount received, total repayment, payment size and number of payments. That one table makes comparison honest.
Why the same factor can mean very different annual costs
Time is the missing piece. A 1.25 factor repaid in 4 months costs far more per year than a 1.25 factor repaid in 12 months.
Take $30,000 repaid as $37,500. If you pay it back over twelve months, you hold the money for an average of roughly six months, because you are paying the balance down each period. If you pay it back in four months, the average balance is held for about two months.
The same $7,500 fee is spread over a much shorter period, so the annualized cost is much higher. Annual percentage rates fold time into the figure. A factor does not. That is why we recommend converting any factor offer to a monthly payment and a payback period before you compare it with a loan quoted in APR. Our worksheet on total cost of an offer does this for you.
What typical factor rates look like
Factor rates vary by risk, term and product, and you should compare actual offers rather than rely on a typical number.
Offers on short-term products commonly land between about 1.1 and 1.5, but there is no fixed standard, and a figure outside that range is possible. Factors depend on credit, revenue stability, industry, time in business and how much you borrow. Better files tend to receive lower factors.
Do not shop on factor rate alone. A lower factor with a short term can cost more per year than a higher factor over a longer term. Compare the total dollars repaid, the payment size and the length of time.
Factor rates versus interest rates and APR
An interest rate accrues on the remaining balance, while a factor rate applies to the full amount from day one.
On a term loan, you pay interest on a declining balance, so the cost falls as you repay. With a factor rate, the full fee is set up front, so there is little reward for repaying early unless the contract provides one. For a longer product such as a term loan or line of credit, interest and APR are the normal ways to compare.
When a factor-rate product makes sense
It fits when speed matters, the project pays back fast, and you can cover the payments comfortably.
Short-term products can be a good fit for a quick inventory purchase that turns in weeks, a repair that restores revenue or a seasonal ramp-up. They are a poor fit for slow-return projects or for covering ongoing losses. Work out how much the money will earn, then compare it to the cost. If the answer is close, look for a cheaper structure. See our longer article on factor rates for more examples.
Questions to ask before signing
Ask for the total repayment, the net funds you will receive, the payment schedule, the term and any prepayment terms.
- What is the exact dollar amount that will reach my account?
- What is the total I will repay, and over what period?
- How are payments collected, and how often?
- Is there a discount for early payoff?
- Are there any other fees, now or later?
A worked comparison of two offers
Put offers side by side with total dollars, term and monthly equivalent, and the better deal is often not the one with the lower factor.
This is an illustrative example. Offer A: $30,000 at 1.20 repaid over 5 months, total $36,000, or $7,200 a month. Offer B: $30,000 at 1.28 repaid over 10 months, total $38,400, or $3,840 a month.
Offer A costs $2,400 less in total but takes nearly twice the monthly cash. If your margin cannot carry $7,200 a month, Offer B may be the safer choice even though it costs more. If you can carry it comfortably, A wins. The right answer depends on your cash flow, not the factor alone.
Frequently asked questions
Is a higher factor rate always worse?
Not always. A higher factor over a longer term can cost less per year than a lower factor repaid quickly. Compare total repayment and payback period.
Can I negotiate a factor rate?
Sometimes. Stronger bank statements, a longer history and smaller requested amounts can improve offers. Comparing multiple offers also helps.
How do I convert a factor rate to APR?
You need the term and the payment schedule, since time drives the result. An online calculator or your accountant can compute it.
Does ROI Funder show the cost before I sign?
Yes. We show total repayment, payback period and a monthly-equivalent payment so you can compare offers on the same terms.
Do banks use factor rates?
Traditional banks quote interest rates and APR on loans. Factor rates are mostly used on short-term working capital and revenue-based products.