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Bill Discounting vs. Bill Purchase: Best Invoice Financing Option?

By Annapoorna

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Updated on: Jul 18th, 2023

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5 min read

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Bill discounting vs bill purchase often may seem to have the same meaning. This is a common misconception among business owners. Understanding bill discounting vs bill purchase is vital so as to ensure the option that suits your business better. Let’s know the differences between bills purchased and discounted.

Understanding bill discounting

Bill discounting is a process that involves using unpaid invoices as collateral, usually with banks or financial institutions, in exchange for a short-term loan. Such a loan is at a value less than the total amount of the unpaid invoices. The business does not receive the entire amount since they offer the third party a discount on the same.

This is done mainly to ensure that the business has sufficient funds to meet its working capital needs. Steady cash flows are necessary for a business to maintain a healthy growth rate. Here, the collection responsibility and credit control shall remain with the business. Credit control here refers to the control or right of the business over the dues of the debtors.

Let’s understand with the help of an example of bill discounting. Consider a businessman Mr XYZ, selling goods to Mr PQR worth Rs.1,02,000 on credit. However, Mr PQR does not have any cash to pay for the purchase immediately.

Mr PQR is certain to make payment on a later date, after three months and hence, the bill is raised stating Mr X will pay Rs 1,02,000 after three months. However, Mr XYZ is unable to wait until three months as he needs cash urgently.

Mr XYZ approaches a bank and discounts the bill or goes for bill discounting at a 15% p.a. discount rate. This acts as a commission to the bank amounting to Rs.3,825 for three months. The bank pays out the rest amount to Mr XYZ of Rs.98,175.

Meaning of bill purchase

Bill purchase is also known as factoring. This is a process where the unpaid invoices are sold to a third party (also known as factors) in exchange for a discounted final settlement. Here, the credit control and responsibility of collection of the dues is transferred to the factor. It is the responsibility of the factor to collect the dues from the customers or debtors.

Bill purchase example includes, for instance, ABC Ltd has Rs.3,00,000 as trade receivables and approaches XYZ Ltd, a factor, for the sale of these receivables, since ABC Ltd has an immediate need for cash. XYZ Ltd buys the trade receivables from ABC Ltd for Rs.2,80,000 as the full and final settlement. The right to collect the dues and the responsibility of collection now lies with XYZ Ltd.

Difference between bill purchase and bill discounting

Bill discounting vs bill purchase can be presented as follows-

Bill DiscountingBill Purchase
The details of the unpaid invoices is shared with the lenderThe unpaid invoices are sold to the factor
Invoice value is assessed after which a short term loan is given based on the valueThe factor makes the payment of the invoices after deducting their fees
Credit control lies with the businessCredit control is shifted to the factor
The responsibility to collect payments lies with the businessThe responsibility to collect the payments now lies with the factor
Customers are not made aware of the leveraging of invoicesCustomers are made aware that the dues must now be paid to the factor

Which of Bill discounting vs bill purchase is superior for businesses to choose?

Bill discounting and bill purchase both offer the business a method of obtaining funds as they await the outstanding dues from customers. The purpose they serve is similar in nature. However, there are a couple of factors to consider to choose the best alternative between bills purchased and bill discounting:

  • Customer relationship

In the case of bill discounting, the responsibility to collect the dues from the customers still lies with the business. The customers need not be informed of the act of bill discounting taken by the business. Therefore, the customer relationship remains unaffected. However, with bill purchasing, the responsibility of collection is transferred to the lender (factor). Therefore, the potential of the customer relationship getting affected is quite likely.

  • Collection of dues

Sometimes, the business may benefit from handing over the responsibility of collecting the dues to a lending institution. However, this differs on a case-to-case basis. If the business opts for bill purchase, this will be the case. On the other hand, if the business wishes to collect the dues on its own, bill discounting is the option that businesses should go for.

FAQs on purchase and discounting of bills

Some of the popular FAQs on Bill purchase and bill discounting are listed below-

What are the benefits of purchasing and discounting of bills?

Both bills purchased and discounted involve access to collateral-free instant financing, ideal when credit terms vary among clients and when doesn’t encumber the finances of the business.

If the collection process is not efficient in a business, which one between bill discounting vs bill purchase to choose?

In bill discounting vs bill purchase, choose bill purchase over bill discounting when the collection process of business is not efficient.

What are the different types of bill discounting?

The two methods of bill discounting are factoring and reverse factoring, both done on the TReDS platform. Both methods are made to fasten and increase the cash flow without disturbing the financials of the company.

Is Bill discounting a good option?

Yes, the bill discounting option is excellent when your business wants to retain strong credit control and lower debts.

What are variants of bills purchased and discounted?

The several popular variants of bill purchased and discounted are export bill purchase and discounting, purchase LC bill discounting, and foreign bill purchase and foreign bill discounting.

About the Author

I preach the words, “Learning never exhausts the mind.” An aspiring CA and a passionate content writer having 4+ years of hands-on experience in deciphering jargon in Indian GST, Income Tax, off late also into the much larger Indian finance ecosystem, I love curating content in various forms to the interest of tax professionals, and enterprises, both big and small. While not writing, you can catch me singing Shāstriya Sangeetha and tuning my violin ;). Read more

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