Calculations for Debt Factoring
Consumers are most familiar with the practice of debt factoring if they came to the attention of a collections agency -- a third-party company that bought their debt from the entity who originally held the loan. Debt factoring can be a risky enterprise, but has the potential for making a large profit with a relatively low overhead.
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How Debt Factoring Works
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When an account is factored, the company holding the loan sells the debt for a percentage of its face value. Because collections is expensive -- and risks losing the loan altogether -- the original company is willing to make this deal in order to mitigate its losses. The purchasing company then "owns" the debt, and often the right to add charges and interest, which they will attempt to collect. Because the face value is already higher than the purchase price, the company starts the process with a potential for profit.
Calculation for Selling
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When selling a debt to a factoring company, the entity holding the debt should calculate whether it is a financially sound move. This includes calculations of hard figures, as well as "soft" considerations. The hard figures arrive at how much they need to sell the debt for in order to break even on what they've spent handling the account -- or at least, to lose no more money than they can afford. The soft considerations include the company's relationship with the customer, how likely the debtor is likely to make good on payments and how much the company is likely to spend on the account going forward.
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Calculations for Buying
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If buying a debt to factor, a company's considerations are purely profit-based. An established company will have records that help calculate how much they will spend to collect accounts of certain types -- the largest companies use statistics almost as robust as insurance actuarial tables. If the purchase price plus the estimated expenses leaves enough room for profit, buying that particular debt is a sound move. Note that the estimated expenses will include some margin to account for debts that never get collected. New companies can use generalized industry statistics until they develop substantial records on the performance of their specific team and system.
Calculations for Debtors
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If you owe on an account you can't pay, the process of factoring can help you resolve the debt for a fraction of its face value. As a general rule, factored debt gets sold for less than 50 percent of the face value -- meaning that the company you owe money will get no more than 50 percent of what you owe if it sends your account to collections. You can use this calculation to do some "factoring" of your own by offering the company an amount lower than you owe, but higher than they could sell the debt for. As with a debt collector or other factoring organization, you can make an immediate profit through this negotiation.
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References
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