factoring and assignment of receivables

The Difference Between Assignment of Receivables & Factoring of Receivables

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You can raise cash fast by assigning your business accounts receivables or factoring your receivables. Assigning and factoring accounts receivables are popular because they provide off-balance sheet financing. The transaction normally does not appear in your financial statements and your customers may never know their accounts were assigned or factored. However, the differences between assigning and factoring receivables can impact your future cash flows and profits.

How Receivables Assignment Works

Assigning your accounts receivables means that you use them as collateral for a secured loan. The financial institution, such as a bank or loan company, analyzes the accounts receivable aging report. For each invoice that qualifies, you will likely receive 70 to 90 percent of the outstanding balance in cash, according to All Business . Depending on the lender, you may have to assign all your receivables or specific receivables to secure the loan. Once you have repaid the loan, you can use the accounts as collateral for a new loan.

Assignment Strengths and Weaknesses

Using your receivables as collateral lets you retain ownership of the accounts as long as you make your payments on time, says Accounting Coach. Since the lender deals directly with you, your customers never know that you have borrowed against their outstanding accounts. However, lenders charge high fees and interest on an assignment of accounts receivable loan. A loan made with recourse means that you still are responsible for repaying the loan if your customer defaults on their payments. You will lose ownership of your accounts if you do not repay the loan per the agreement terms.

How Factoring Receivables Works

When you factor your accounts receivable, you sell them to a financial institution or a company that specializes in purchasing accounts receivables. The factor analyzes your accounts receivable aging report to see which accounts meet their purchase criteria. Some factors will not purchase receivables that are delinquent 45 days or longer. Factors pay anywhere from 65 percent to 90 percent of an invoice’s value. Once you factor an account, the factor takes ownership of the invoices.

Factoring Strengths and Weaknesses

Factoring your accounts receivables gives you instant cash and puts the burden of collecting payment from slow or non-paying customers on the factor. If you sell the accounts without recourse, the factor cannot look to you for payment should your former customers default on the payments. On the other hand, factoring your receivables could result in your losing customers if they assume you sold their accounts because of financial problems. In addition, factoring receivables is expensive. Factors charge high fees and may retain recourse rights while paying you a fraction of your receivables' full value.

• All Business: The Difference Between Factoring and Accounts Receivable Financing

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Assignment of Accounts Receivable: Meaning, Considerations

Adam Hayes, Ph.D., CFA, is a financial writer with 15+ years Wall Street experience as a derivatives trader. Besides his extensive derivative trading expertise, Adam is an expert in economics and behavioral finance. Adam received his master's in economics from The New School for Social Research and his Ph.D. from the University of Wisconsin-Madison in sociology. He is a CFA charterholder as well as holding FINRA Series 7, 55 & 63 licenses. He currently researches and teaches economic sociology and the social studies of finance at the Hebrew University in Jerusalem.

Charlene Rhinehart is a CPA , CFE, chair of an Illinois CPA Society committee, and has a degree in accounting and finance from DePaul University.

Investopedia / Jiaqi Zhou

What Is Assignment of Accounts Receivable?

Assignment of accounts receivable is a lending agreement whereby the borrower assigns accounts receivable to the lending institution. In exchange for this assignment of accounts receivable, the borrower receives a loan for a percentage, which could be as high as 100%, of the accounts receivable.

The borrower pays interest, a service charge on the loan, and the assigned receivables serve as collateral. If the borrower fails to repay the loan, the agreement allows the lender to collect the assigned receivables.

Key Takeaways

• Assignment of accounts receivable is a method of debt financing whereby the lender takes over the borrowing company's receivables.
• This form of alternative financing is often seen as less desirable, as it can be quite costly to the borrower, with APRs as high as 100% annualized.
• Usually, new and rapidly growing firms or those that cannot find traditional financing elsewhere will seek this method.
• Accounts receivable are considered to be liquid assets.
• If a borrower doesn't repay their loan, the assignment of accounts agreement protects the lender.

Understanding Assignment of Accounts Receivable

With an assignment of accounts receivable, the borrower retains ownership of the assigned receivables and therefore retains the risk that some accounts receivable will not be repaid. In this case, the lending institution may demand payment directly from the borrower. This arrangement is called an "assignment of accounts receivable with recourse." Assignment of accounts receivable should not be confused with pledging or with accounts receivable financing .

An assignment of accounts receivable has been typically more expensive than other forms of borrowing. Often, companies that use it are unable to obtain less costly options. Sometimes it is used by companies that are growing rapidly or otherwise have too little cash on hand to fund their operations.

New startups in Fintech, like C2FO, are addressing this segment of the supply chain finance by creating marketplaces for account receivables. Liduidx is another Fintech company providing solutions through digitization of this process and connecting funding providers.

Financiers may be willing to structure accounts receivable financing agreements in different ways with various potential provisions.​

Special Considerations

Accounts receivable (AR, or simply "receivables") refer to a firm's outstanding balances of invoices billed to customers that haven't been paid yet. Accounts receivables are reported on a company’s balance sheet as an asset, usually a current asset with invoice payments due within one year.

Accounts receivable are considered to be a relatively liquid asset . As such, these funds due are of potential value for lenders and financiers. Some companies may see their accounts receivable as a burden since they are expected to be paid but require collections and cannot be converted to cash immediately. As such, accounts receivable assignment may be attractive to certain firms.

The process of assignment of accounts receivable, along with other forms of financing, is often known as factoring, and the companies that focus on it may be called factoring companies. Factoring companies will usually focus substantially on the business of accounts receivable financing, but factoring, in general, a product of any financier.

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What is Accounts Receivable Factoring?

How does accounts receivable factoring work, accounts receivable factoring vs. traditional operating line of credit, types of accounts receivable factoring, what types of businesses employ a/r factoring, more resources, accounts receivable factoring.

A form of short term financing available to business borrowers that sell on credit terms

Accounts receivable (A/R) factoring, often referred to as invoice discounting, is a type of short-term debt financing used by some business borrowers. The transaction takes place between a business (the borrower) and a lender (often a factoring company as opposed to a traditional commercial bank).

Factoring is only available as a funding source for companies that sell on credit terms, meaning that a borrower (the vendor) sells a good (or service), generating an invoice to its buyer for payment at a later date (terms may be 30, 45, or 60+ days). This expected future payment sits as an account receivable (a current asset ) on the vendor’s balance sheet.

A management team may choose to sell or assign this account receivable (or a specific invoice) to a factoring company at a discount to its face value in exchange for cash. The transaction permits the borrower to have cash today instead of waiting for the payment terms to be settled in the future.

Aside from the advantage of getting cash upfront, accounts receivable factoring is also commonly employed as a strategy to transfer payment risk to another party (in this case, the factoring company).

Key Takeaways

• Accounts receivable factoring is a source of debt financing available to businesses that sell on credit terms.
• The borrower assigns or sells its accounts receivable (or specific invoices) in exchange for cash today.
• A/R factoring is more expensive than a traditional bank line of credit but offers higher advance rates and greater flexibility around the uses of the loan proceeds.

A borrower’s management team assigns or sells the account receivable at a discount to its face value. The cash amount is expressed in percentage terms and is referred to as the “ advance rate .”

An advance rate can be thought of as a “loan-to-value” and it’s derived in a similar way to how a “borrowing base” or a “margin rate” might be calculated on an operating line of credit by a more traditional commercial lender.

A 90% advance rate on a $100,000 invoice would mean the factoring company wires the vendor $90,000 (90%) today, then remits the difference (less its interest charge) upon collection of the invoice from the vendor’s customer at the end of the invoice period.

Both A/R factoring and operating lines are considered forms of post-receivable financing, meaning an invoice has been generated (as opposed to Purchase Order Financing, which is pre-receivable). Assuming a commercial borrower qualifies for both, why might management choose one over the other?

There are advantages and disadvantages to both, best illustrated when measured against the following dimensions:

Interest rate

Rates can vary considerably based on a borrower’s risk, but in general, an operating line of credit will cost between 1% and 3.5% over the lender’s “Base Rate” (like bank prime), meaning an all-in annual interest rate of ~4% to ~9% depending on the jurisdiction and the rate environment. Factoring, on the other hand, will often cost 1.5%-3% per month (for an annualized rate of 20%-45%).

Duration of the exposure

While subject to annual reviews and margining requirements, a bank operating line is usually extended to revolve on an ongoing basis, as long as the lender can remain comfortable with the borrower’s risk profile. A/R factoring exposure generally only lasts as long as the vendor’s payment terms with its buyer (usually 30-90 days).

Loan-to-value (LTV)

A bank line of credit will generally advance up to 75% of good accounts receivable (meaning under some aging limit–usually 60 or 90 days). Many factoring companies will offer an advance rate of 75-90% of an invoice’s face value. This higher advance rate is considered attractive by many borrowers and might justify the higher cost.

Purpose of loan proceeds

A bank’s line of credit is used for “general working capital” support. This means it bridges a borrower’s working capital funding gap; it would usually be frowned upon (or even restricted) to use the proceeds to fund a dividend, for example.

Factoring, on the other hand, often has very few restrictions on the uses of loan proceeds. This flexibility is another reason many borrowers might be willing to pay a premium.

Broadly speaking, accounts receivable factoring can be categorized as follows:

1. Recourse vs. Non-Recourse Factoring

Recourse means that should a borrower’s customer not pay, the factoring company will retain “recourse” over the borrower (the vendor), meaning they can demand repayment. Non-recourse factoring means that the factoring company is out of pocket should the vendor’s buyer not settle its invoice.

2. Notification vs. Non-Notification

In a notification deal, the borrower’s buyer would be notified of the transaction, meaning that the company’s payable team would be contacted with new payment instructions by the factoring company. In a non -notification deal, the buyer is completely unaware of the vendor’s financing arrangement with the factoring company.

3. Regular vs. “Spot”

In a spot deal, the vendor and the factoring company are engaging in a single transaction. In what’s called a regular factoring arrangement, the factoring company will have an ongoing relationship with its borrower and they likely have an approved limit, which can be drawn, repaid, and redrawn again – based on newly issued invoices.

All else being equal, regular, recourse, and notification deals are less risky for a lender (or a factoring company); non-recourse, non-notification, and spot deals are more risky .

While accounts receivable factoring is most frequently used by smaller businesses, it can work with any type of company (as long as it sells on credit terms). However, it is very common in a smaller subset of specific industries, where:

• Collection times are long or unpredictable – like independent trucking and logistics companies.
• Collections and disbursements are uneven – like temporary staffing agencies, where employees are paid bi-weekly by the agency but its invoices may only be settled by the employer monthly (or longer).
• Invoice settlement is dependent upon a different party in the value chain settling its invoice – like with Construction sub-trades (plumbing, framing, HVAC, etc.); tradespeople complete work today but are only paid by the general contractor (GC) once the project owner or the real estate developer settles its invoice with the GC.

Thank you for reading CFI’s guide to Accounts Receivable Factoring. To keep advancing your career, the additional CFI resources below will be useful:

• Banking Products and Services Course
• Sales and Collection Cycle
• Allowance for Doubtful Accounts
• Accounts Payable
• Notes Receivables
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Accounts Receivable Factoring

A sort of commercial borrowing that assists businesses with cash flow problems

Chris currently works as an investment associate with Ascension Ventures, a strategic healthcare venture fund that invests on behalf of thirteen of the nation's leading health systems with $88 billion in combined operating revenue. Previously, Chris served as an investment analyst with New Holland Capital, a hedge fund-of-funds  asset management  firm with $20 billion under management, and as an investment banking analyst in  SunTrust Robinson Humphrey 's Financial Sponsor Group.

Chris graduated Magna Cum Laude from the University of Florida with a Bachelor of Arts in Economics and earned a Master of Finance (MSF) from the Olin School of Business at Washington University in St. Louis.

Prior to accepting a position as the Director of Operations Strategy at DJO Global, Manu was a management consultant with  McKinsey  & Company in Houston. He served clients, including presenting directly to C-level executives, in digital, strategy,  M&A , and operations projects.

Manu holds a PHD in Biomedical Engineering from Duke University and a BA in Physics from Cornell University.

• What Is Accounts Receivable Factoring?
• How Does Accounts Receivable Factoring Work?
• Accounts Receivable Factoring Vs. Traditional Operating Line Of Credit
• Types Of Accounts Receivable Factoring
• What Types Of Businesses Employ A/R Factoring?
• Costs Related To Account Receivable Factoring
• Benefits Of Account Receivable Factoring

Accounts Receivable Factoring FAQs

What is accounts receivable factoring.

Accounts receivable factoring is a sort of commercial borrowing that assists businesses with cash flow problems. Often referred to as A/R factoring or invoice factoring.

A/R factoring is an asset-based financing in which the company sells its right to collect payment from receivables to a third party at a discount to acquire money immediately from the driver. It is also called invoice factoring or debtor financing.

It enables businesses to finance their accounts receivable, providing instant money. Small and developing businesses that do not have big financial reserves frequently employ A/R factoring.

Accounts receivable finance allows company owners to advance on such bills and utilize the cash for critical business requirements instead of waiting weeks or months for customers to pay their invoices.

It's especially well-suited for companies with lengthy net terms but continuing operational costs or fresh  expenses  that assist in accelerating expansion.

Factoring assists small and developing firms that are unable to obtain traditional finance. The approval procedure is mostly based on the credit quality of your invoices rather than your company's financial condition. As a result, small businesses with a steady client base can frequently qualify.

Factoring is only accessible as a financing method for businesses that sell on credit terms. For example, a borrower sells a product and generates an invoice for payment at a future date. This anticipated future payment is shown on the vendor's financial statements as an account receivable.

Factoring receivables is a method of releasing cash flow that unpaid bills have held up. Typically, the company will collect payments on behalf of the corporation.

Key Takeaways

• Accounts receivable factoring, also known as A/R factoring or invoice factoring, is a form of commercial borrowing that helps businesses address cash flow issues. It allows companies to obtain immediate cash by selling their right to collect payment from receivables to a third party at a discount.
• In accounts receivable factoring, a business sells its invoices to a factoring company, which pays the business upfront for the invoices. The factoring company then collects payments from the customers on behalf of the business.
• There are different types of accounts receivable factoring, including recourse vs. non-recourse factoring, notification vs. non-notification factoring, and regular vs. spot factoring.
• While small and growing businesses frequently use accounts receivable factoring to improve cash flow, larger organizations also utilize it to access funds quickly. Factoring can be particularly helpful for businesses dealing with invoicing, daily operations, and investments in growth.
• The costs of accounts receivable factoring can vary based on factors like the quality of receivables, the industry, and recourse vs. non-recourse options. Benefits include improved cash flow, no impact on credit scores, avoidance of debt, and greater control over financing options compared to traditional loans.

How Does Accounts Receivable Factoring Work ?

Receivables factoring deals are often structured as a sale of your invoices instead of a loan, and the business sells bills to a factoring firm.

In exchange, the factoring business will pay you immediately after the purchase. This procedure can be performed as many times as necessary.

The factor funds the corporation after the entity has sold the items on credit to a consumer. In turn, the factor collects payments on account of receivables from the clients on the due dates specified in the sale transaction.

This allows the company to get the payment immediately instead of waiting until the due date. In addition, the company can utilize the money for commercial purposes now that it has it. 

As a result of the component, the restricted cash flow owing to credit consumers is freed. The benefit of factoring is that the manufacturer handles the default risk instead of the enterprise.

You submit an invoice to your client after you have delivered a product or service to them. The factoring business pays you immediately, with the invoice as security. The transaction is completed once the client pays the invoice, which normally takes between 30 and 90 days.

Factoring can help your business develop quickly and service more customers. However, this strategy has restrictions and drawbacks like any other financing option. Consider the following benefits and drawbacks of factoring receivables.

The key here is that you receive the majority of the money owing to you relatively immediately, ensuring that you can handle the cost of operating your business while still having the cash you need to develop.

Accounts Receivable Factoring vs. Traditional Operating Line of Credit

Accounts receivable factoring is a sort of commercial borrowing that assists businesses with cash flow problems.   

Receivables factoring deals are often structured as a sale of your invoices instead of a loan. For example, your business sells bills to a factoring firm.

A/R factoring and traditional operating lines of credit are both types of post-receivable financing, implying that an invoice has been created.

A traditional operating line of credit is a flexible loan from a financial institution that consists of a fixed amount of money you can borrow when you need it and return either instantly or over time.

Lines of credit are less risky income streams than credit card loans. Still, they affect a bank's earning asset management considerably since outstanding amounts cannot be regulated once the line of credit is granted.

Lines of credit can be beneficial in cases where there will be recurring financial outlays; however, the amount is unknown, and/or the suppliers do not take credit cards, as well as instances requiring big cash deposits.

Types of accounts receivable factoring

There are three accounts receivable factoring: recourse vs. non-recourse factoring, notification vs. non-notification, and regular vs. spot. 

The business owner sells an invoice to a factoring company, which pays the business owner a significant portion of the invoice as an advance. 

The factoring business contacts the consumer to request payment. After receiving it, the factoring company pays the rest of the invoice amount, minus costs, to the business.

Recourse Vs. Non-Recourse Factoring

A corporation that factors with recourse collaborates with a Factor that lends against accounts receivables as collateral to advance cash.

Since the owners must retain liquidity to acquire back any non-performing accounts receivable accepted as collateral by the factor, recourse factoring typically demands the personal guarantee of management or the owners.

A non-recourse factor enters into an invoice purchase arrangement with a firm without requesting the company to buy unpaid or past-due accounts receivable. 

The factor takes the credit risk and liability of non-payment on a factored invoice under a non-recourse agreement.

Notification Vs. Non-Notification Factoring

Clients are advised that their accounts have been sold to factor in this sort of factoring. Buyers often provide Factor with delivery receipts, account assignments, and copies of invoices, confirming to the supplier that Factor has acquired their accounts. 

Due to the obvious undesirable openness that this sort of factoring provides in the marketplace, notification   factoring might jeopardize a seller's connections with customers.

Non-notification factoring is a sort of invoice factoring arrangement between a company and its factor that minimizes interaction between the factor and the client.

A business may seek a non-notification factoring arrangement for several reasons, but the outcomes for the business, factor, and customer are frequently the same as with standard factoring transactions.

Regular Vs. Spot

In most traditional invoice factoring arrangements, the prospect frequently uses the facility. Depending on the client's demands, they may factor bills weekly, monthly, or daily.

The transaction is known as  spot factoring  when a factoring business buys a single invoice as a one-time purchase. When the invoice is paid, both the transaction and the financing connection come to an end. 

Spot factoring is typically used to finance a single, big order. Although spot factoring provides consumers with greater flexibility, it is also more expensive than traditional factoring.

What Types of Businesses Employ A/R Factoring?

While small firms most commonly utilize accounts receivable factoring, it may be used by any organization. 

Many major organizations deal with invoice factoring companies because factoring can give them the money they want quickly, in some cases, as little as 24 hours. 

When invoice factoring businesses acquire receivables from an industry's accounts receivable, the business can obtain cash immediately rather than wait 30-90 days for consumers to pay. 

This consistent operating money flow enables firms to recruit additional employees, advance offices, or acquire critical equipment.

Factoring is used by large corporations to help with cash flow for a variety of reasons, including but not limited to: speeding up invoicing , managing daily operations, and gaining access to funding for new investment in the business.

Not only can factoring assist entrepreneurs in meeting financial responsibilities and growing, but it is also far more likely to succeed than a loan or business line of credit.

Any firm that bills other companies for products or services after they've been provided can convert their accounts receivable into quick cash by selling their outstanding invoices to an invoice factoring provider at a reduced rate.

Factoring enables you to sell open invoices to a factoring provider for same-day settlement. The factoring business subsequently collects your clients' payments.

The businesses that employ A/R factoring are advertisers, wholesalers, trucking and freight companies, distributors, and telecom. 

Costs related to account receivable factoring

Prices are established by factoring businesses based on the value of the accounts receivable. 

Factoring businesses can charge flat costs regardless of how long it takes to collect payment on an invoice. Others impose varying fees: the longer it takes your consumers to pay their bills, the further you'll spend.

For accounts receivable finance, you should expect to pay a factoring charge of between 1% and 5%. However, a variety of factors might all have an impact on the actual rate. 

These criteria include the number of your bills, the quality of your client base, the volatility of the sector in which you work, and the contract's particular provisions.

Another issue is whether you want to engage in recourse or non-recourse business factoring. If you use recourse factoring, you agree to pay an extra fee if your bills are not paid on time.

Non-recourse factoring, however, exempts you from liability for unpaid bills. Therefore, the cost of non-recourse factoring is higher. It also has higher standards than recourse factoring since the factor accepts higher risks.

The invoicing mechanism has an impact on the factoring fee as well. The majority of factoring finance is based on what is known as  non-progress billing . It comprises typical invoices and payments received for time and materials or commodities and services.

Progressive billing is used for continuing invoices paid in installments, such as a building project, and has a higher factoring cost. Certain factoring providers may charge a one-time copayment to create your account.

Benefits of account receivable factoring

While accounts receivable factoring is sometimes categorized as a credit solution, it is not a loan. Accounts receivable factoring does not necessitate security, does not affect corporate credit ratings, and does not result in any debt being recorded on the financial statements.

Every business's success is dependent on maintaining a steady cash flow. However, cash flow can trickle down when income is caught up in outstanding receivables, affecting the capacity to meet overhead expenses, make payroll, and even accept new clients. 

Accounts receivable factoring reduces delays by converting invoices into cash and releasing money within 24 hours.

Since factoring is not a loan, firms may maintain their credit scores while avoiding debt and continuous interest charges. In addition, because of the increased cash flow, revenue will be received more quickly and proportionally to sales. 

This gives firms a significant edge since they may not only pay costs but also create capital reserves for expansion due to the expedited cash flow of factoring.

When companies take out loans, they take on a lot of risks. Companies must put up security, incur debt, and make monthly payments on the sum owing despite whether sales are strong or low. Factoring, on the other hand, is easier, more transparent, and puts businesses in control.

Organizations can pick which receivables or sections of receivables are factored in, and they can investigate their clientele's creditworthiness before electing to factor in an invoice. Regarding funding, businesses want greater control and agency, which factoring provides.

Prices are established by factoring businesses based on the value of the accounts receivable . Factoring businesses can charge flat costs regardless of how long it takes to collect payment on an invoice. The longer it takes your consumers to pay their bills, the more you owe.

In their bids, most factoring businesses employ one of three basic price schemes. Fixed-rate pricing, variable rate pricing, and discount plus margin pricing are the three pricing systems. We explain how each price structure works and how to determine the costs for each scheme in this segment.

Although their similar titles, accounts receivable factoring and accounts receivable financing are not the same thing. Nonpayment invoices are used as security in accounts receivable finance, also known as invoice financing.

Finance is provided to business owners depending on the value of their accounts receivable. Corporations repay creditors with interest when bills are paid. Factoring is typically more expensive than financing because the factoring business is in charge of receiving the invoice. 

They absorb the losses if the invoice is not paid in the event of nonrecourse factoring. In contrast, with accounts receivable finance, business owners maintain all of those duties.

While accounts receivable factoring is sometimes categorized as a credit solution, it is not a loan. Accounts receivable factoring does not necessitate security, does not affect corporate credit ratings, and does not result in any debt being recorded on the financial statements .

Since factoring is not a loan, firms may maintain their credit scores while avoiding debt and continuous interest charges. Because of the increased cash flow , revenue will be received more quickly and proportionally to sales.

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Assignment of receivables

Understanding assignment of receivables.

The concept of assignment of receivables is foundational to grasping how financial factoring works. In simple terms, it's when a business transfers the rights to receive payment from its customers, known as receivables, to another party. This is usually done to improve cash flow swiftly without waiting for the actual payment terms to expire.

How Does Assignment of Receivables Work?

In practice, a company sells its invoices or receivables at a discounted rate to a factoring company. The factoring company then becomes responsible for collecting payment from the customers. The original company receives immediate cash from this sale, which can boost its liquidity and enable it to invest in growth or manage its expenses better.

Benefits of Assignment of Receivables

Choosing to assign receivables through financial factoring can be a smart move for businesses. It provides instant access to cash, reduces the burden of collection processes, and can be a strategic tool for managing credit risks. Moreover, it does not require traditional forms of collateral, making it an accessible option for many businesses.

Risks and Considerations

However, business owners should weigh this decision carefully. There are costs involved, and by selling receivables at a discount, you might be getting less money than what you're actually owed. Additionally, it is important to choose a reputable factoring company with fair terms and a track record of ethical collection practices.

Conclusion: Is Assignment of Receivables Right for Your Business?

Assignment of receivables can be a powerful tool in the right circumstances. It can ease cash flow challenges and aid in financial management for businesses. It's essential to evaluate your company's specific needs and consider the financial implications before deciding on this financial strategy.

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Assignment of Accounts Receivable – Trap for the Unwary

By  Steven A. Jacobson

Most businesses are familiar with the mechanics of an assignment of accounts receivable. A party seeking capital assigns its accounts receivable to a financing or factoring company that advances that party a stipulated percentage of the face amount of the receivables.

The factoring company, in turn, sends a notice of assignment of accounts receivable to the party obligated to pay the factoring company’s assignee, i.e. the account debtor. While fairly straightforward, this three-party arrangement has one potential trap for account debtors.

Most account debtors know that once they receive a notice of assignment of accounts receivable, they are obligated to commence payments to the factoring company. Continued payments to the assignee do not relieve the account debtor from its obligation to pay the factoring company.

It is not uncommon for a notice of assignment of accounts receivable to contain seemingly innocuous and boilerplate language along the following lines:

Please make the proper notations on your ledger and acknowledge this letter and that invoices are not subject to any claims or defenses you may have against the assignee.

Typically, the notice of assignment of accounts receivable is directed to an accounting department and is signed, acknowledged and returned to the factoring company without consideration of the waiver of defenses languages.

Even though a party may have a valid defense to payment to its assignee, it still must pay the face amount of the receivable to the factoring company if it has signed a waiver. In many cases, this will result in a party paying twice – once to the factoring company and once to have, for example, shoddy workmanship repaired or defective goods replaced. Despite the harsh result caused by an oftentimes inadvertent waiver agreement, the Uniform Commercial Code validates these provisions with limited exceptions. Accordingly, some procedures should be put in place to require a review of any notice of assignment of accounts receivable to make sure that an account debtor preserves its rights and defenses.

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Receivables Finance And The Assignment Of Receivables

Tfg legal trade finance hub, receivables finance and the assignment of receivables.

A receivable represents money that is owed to a company and is expected to be paid in the future. Receivables finance, also known as accounts receivable financing, is a form of asset-based financing where a company leverages its outstanding receivables as collateral to secure short-term loans and obtain financing.

In case of default, the lender has a right to collect associated receivables from the company’s debtors. In brief, it is the process by which a company raises cash against its own book’s debts.

The company actually receives an amount equal to a reduced value of the pledged receivables, the age of the receivables impacting the amount of financing received. The company can get up to 90% of the amount of its receivables advanced.

This form of financing assists companies in unlocking funds that would otherwise remain tied up in accounts receivable, providing them with access to capital that is not immediately realised from outstanding debts.

FIG. 1: Accounts receivable financing operates by leveraging a company’s receivables to obtain financing.  Source: https://fhcadvisory.com/images/account-receivable-financing.jpg

Restrictions on the assignment of receivables – New legislation

Invoice  discounting  products under which a company assigns its receivables have been used by small and medium enterprises (SMEs) to raise capital. However, such products depend on the related receivables to be assignable at first.

Businesses have faced provisions that ban or restrict the assignment of receivables in commercial contracts by imposing a condition or other restrictions, which prevents them from being able to use their receivables to raise funds.

In 2015, the UK Government enacted the Small Business, Enterprise and Employment Act (SBEEA) by which raising finance on receivables is facilitated. Pursuant to this Act, regulations can be made to invalidate restrictions on the assignment of receivables in certain types of contract.

In other words, in certain circumstances, clauses which prevent assignment of a receivable in a contract between businesses is unenforceable. Especially, in its section 1(1), the Act provides that the authorised authority can, by regulations “make provision for the purpose of securing that any non-assignment of receivables term of a relevant contract:

• has no effect;
• has no effect in relation to persons of a prescribed description;
• has effect in relation to persons of a prescribed description only for such purposes as may be prescribed.”

The underlying aim is to enable SMEs to use their receivables as financing to raise capital, through the possibility of assigning such receivables to another entity.

The aforementioned regulations, which allow invalidations of such restrictions on the assignment of receivables, are contained in the Business Contract Terms (Assignment of Receivables) Regulations 2018, which will apply to any term in a contract entered into force on or after 31 December 2018.

By virtue of its section 2(1) “Subject to regulations 3 and 4, a term in a contract has no effect to the extent that it prohibits or imposes a condition, or other restriction, on the assignment of a receivable arising under that contract or any other contract between the same parties.”

Such regulations apply to contracts for the supply of goods, services or intangible assets under which the supplier is entitled to be paid money. However, there are several exclusions to this rule.

In section 3, an exception exists where the supplier is a large enterprise or a special purpose vehicle (SPV). In section 4, there are listed exclusions for various contracts such as “for, or entered into in connection with, prescribed financial services”, contracts “where one or more of the parties to the contract is acting for purposes which are outside a trade, business or profession” or contracts “where none of the parties to the contract has entered into it in the course of carrying on a business in the United Kingdom”. Also, specific exclusions relate to contracts in energy, land, share purchase and business purchase.

Effects of the 2018 Regulations

As mentioned above, any contract terms that prevent, set conditions for, or place restrictions on transferring a receivable are considered invalid and cannot be legally enforced.

In light of this, the assignment of the right to be paid under a contract for the supply of goods (receivables) cannot be restricted or prohibited. However, parties are not prevented from restricting other contracts rights.

Non-assignment clauses can have varying forms. Such clauses are covered by the regulations when terms prevent the assignee from determining the validity or value of the receivable or their ability to enforce it.

Overall, these legislations have had an important impact for businesses involved in the financing of receivables, by facilitating such processes for SMEs.

Digital platforms and fintech solutions: The assignment of receivables has been significantly impacted by the digitisation of financial services. Fintech platforms and online marketplaces have been developed to make the financing and assignment of receivables easier.

These platforms employ tech to assess debtor creditworthiness and provide efficient investor and seller matching, including data analytics and artificial intelligence. They provide businesses more autonomy, transparency, and access to a wider range of possible investors.

Securitisation is an essential part of receivables financing. Asset-backed securities (ABS), a type of financial instrument made up of receivables, are then sold to investors.

Businesses are able to turn their receivables into fast cash by transferring the credit risk and cash flow rights to investors. Investors gain from diversification and potentially greater yields through securitisation, while businesses profit from increased liquidity and risk-reduction capabilities.

References:

https://www.tradefinanceglobal.com/finance-products/accounts-receivables-finance/  – 28/10/2018

https://www.legislation.gov.uk/ukpga/2015/26/section/1/enacted  – 28/10/2018

https://www.legislation.gov.uk/ukdsi/2018/9780111171080  – 28/10/2018

https://www.bis.org/publ/bppdf/bispap117.pdf  – Accessed 14/06/2023

https://www.investopedia.com/terms/a/asset-backedsecurity.asp  – Accessed 14/06/2023

https://www.imf.org/external/pubs/ft/fandd/2008/09/pdf/basics.pdf  – Accessed 14/06/2023

International Trade Law

1 | Introduction to International Trade Law 2 | Legal Trade Finance 3 | Standard Legal Charges 4 | Borrowing Base Facilities 5 | Governing law in trade finance transactions 6 | SPV Financing 7 | Guarantees and Indemnities 8 | Taking security over assets 9 | Receivables finance and the assignment of receivables 10 | Force Majeure 11 | Arbitration 12 | Master Participation Agreements 13 | Digital Negotiable Instruments 14 | Generative AI in Trade Law

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About the Author

Trade Finance Global (TFG) assists companies with raising debt finance. While we can access many traditional forms of finance, we specialise in alternative finance and complex funding solutions related to international trade. We help companies to raise finance in ways that is sometimes out of reach for mainstream lenders.

Assignment of Accounts Receivable: Definition, Benefits, and Emerging Trends

Last updated 03/28/2024 by

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What is assignment of accounts receivable, how does assignment of accounts receivable work, what are some special considerations for assignment of accounts receivable, emerging trends in assignment of accounts receivable, fintech solutions.

• Access to immediate cash flow
• Allows businesses to leverage their accounts receivable
• May be available to companies with limited credit history or poor credit
• Provides an alternative financing option when traditional loans are not available
• Helps businesses manage cash flow fluctuations
• Higher cost compared to traditional financing options
• Interest rates and service charges can be substantial
• May indicate financial distress to stakeholders
• Loss of control over customer relationships and collections process
• Defaulting on the loan can result in loss of assets

Frequently asked questions

How does assignment of accounts receivable differ from factoring, can any business use assignment of accounts receivable, what happens if a customer defaults on payment, is assignment of accounts receivable a sign of financial distress, what are the eligibility criteria for assignment of accounts receivable, how does assignment of accounts receivable affect financial statements, are there any alternatives to assignment of accounts receivable, how can businesses mitigate the risks associated with assignment of accounts receivable, key takeaways.

• Assignment of accounts receivable allows businesses to access immediate cash flow by leveraging their outstanding invoices.
• While it provides an alternative financing option, it can be costly compared to traditional loans.
• Fintech companies are transforming the accounts receivable financing market with innovative digital solutions.
• Businesses should carefully evaluate the terms and implications of assigning their accounts receivable before entering into agreements with lenders.

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Factor Accounts Receivable

Written by True Tamplin, BSc, CEPF®

Reviewed by subject matter experts.

Updated on January 30, 2024

Fact Checked

Why Trust Finance Strategists?

Table of Contents

Definition and explanation.

The original holder obtains cash at once in return for the proceeds collected in the future, except that the collection process is handled by a third party (often known as a fa ctor ).

If the assigned receivables are insufficient to repay the factor because of bad debts , the original holder must transfer additional receivables.

If the factor collects more than the amount advanced, the excess is turned back to the original holder, as well as any uncollected accounts .

Suppose that Sample Company obtains $80,000 cash on 31 December 2023 by assigning $100,000 of its receivables with recourse.

The factor will collect the receivables and keep the first $85,000 to repay the cash advance and a $5,000 service charge.

Settlement is to be made on 1 April 2024, which will involve making a payment to Sample Company of any excess cash and the return of the uncollected accounts. The journal entries shown below would be made.

The journal entry used to record the cash received from the factor is as follows:

The journal entry used to record the transfer of the receivables to the factor:

The journal entries to accrue the finance charge are shown below.

This last entry reflects the fact that the factor collected $92,000 cash and kept $85,000. The uncollected accounts are transferred back.

This example illustrates how the events described in the previous section would be reflected in Sample Company's balance sheet —assuming, for simplicity, that nothing else happens.

Notice that the payable to the factor is contra to the assigned receivables. Until informed about the amount collected and kept, the company will continue to carry the assigned receivables and the payable on the books at their original amounts.

The net result of the arrangement is that Sample Company exchanged $85,000 of its receivables for $80,000 cash.

Assignment Without Recourse

Assigning without recourse differs from as signing with recourse in that the factor does not get to substitute other accounts for the uncollectible ones.

The factor does not have to return any cash in excess of the amount advanced or any uncollected accounts.

In effect, assignment without recourse is the same as an outright sale of the receivables.

Accounting for this transaction is si mple because it is the same as the sale of any other asset . The holder records a loss for the difference between the proceeds and the book value .

The factor (or buyer) usually obtains a high discount from the book value of the receivables because of the risk of uncollectibility.

Suppose that Sample Company receives $90,000 cash on 31 December 2023 for assigning $100,000 of its receivables without recourse. The following journal entry would be recorded:

This arrangement is essentially the one used by retailers when they enroll in a bank credit card plan.

Upon submitting charge slips from customers, they receive a credit in their bank account for a percentage of the sale.

The cost is incurred by the retailer for the following purposes:

• Obtain the cash quickly
• Avoid bad debt losses
• Save clerical costs
• Increase sales

Since the arrangement dealing with credit cards is related to ongoing operations, the debit entry is made to an expense account instead of a loss account.

Factor Accounts Receivable FAQs

What is factoring.

Factoring is a form of financing in which your company sells its Accounts Receivable (collectible debt owed to you by customers) to another business known as the "factor" at a discount.

Does my company need any special expertise or training to do factoring?

No, regular businesses can successfully factor their Accounts Receivable. A factor will help your company complete all of the paperwork and advise you on how to optimize its factoring program.

How much money should I factor in?

A business should factor all of the Accounts Receivable that are within 90 days old. This will give you more control over your Cash Flow since you can factor on a regular basis instead of waiting until you have collected enough money to pay off an entire account payable.

Will factoring affect our company's credit rating?

No, it will not affect your company's credit rating. There is no impact on a company's current line of credit and it does not affect the company's ability to obtain additional borrowing in the future.

What are "factoring fees" and do I have to pay them?

The factor will charge a separate fee for its services when it purchases your Accounts Receivable. This fee is usually not more than 1% of the total sales price and it may be negotiable.

About the Author

True Tamplin, BSc, CEPF®

True Tamplin is a published author, public speaker, CEO of UpDigital, and founder of Finance Strategists.

True is a Certified Educator in Personal Finance (CEPF®), author of The Handy Financial Ratios Guide , a member of the Society for Advancing Business Editing and Writing, contributes to his financial education site, Finance Strategists, and has spoken to various financial communities such as the CFA Institute, as well as university students like his Alma mater, Biola University , where he received a bachelor of science in business and data analytics.

To learn more about True, visit his personal website or view his author profiles on Amazon , Nasdaq and Forbes .

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• Receivables
• Notes Receivable
• Credit Terms
• Cash Discount on Sales
• Accounting for Bad Debts
• Bad Debts Direct Write-off Method
• Bad Debts Allowance Method
• Bad Debts as % of Sales
• Bad Debts as % of Receivables
• Recovery of Bad Debts
• Accounts Receivable Aging
• Assignment of Accounts Receivable
• Factoring of Accounts Receivable

Assignment of accounts receivable is an agreement in which a business assigns its accounts receivable to a financing company in return for a loan. It is a way to finance cash flows for a business that otherwise finds it difficult to secure a loan, because the assigned receivables serve as collateral for the loan received.

By assignment of accounts receivable, the lender i.e. the financing company has the right to collect the receivables if the borrowing company i.e. actual owner of the receivables, fails to repay the loan in time. The financing company also receives finance charges / interest and service charges.

It is important to note that the receivables are not actually sold under an assignment agreement. If the ownership of the receivables is actually transferred, the agreement would be for sale / factoring of accounts receivable . Usually, the borrowing company would itself collect the assigned receivables and remit the loan amount as per agreement. It is only when the borrower fails to pay as per agreement, that the lender gets a right to collect the assigned receivables on its own.

The assignment of accounts receivable may be general or specific. A general assignment of accounts receivable entitles the lender to proceed to collect any accounts receivable of the borrowing company whereas in case of specific assignment of accounts receivable, the lender is only entitled to collect the accounts receivable specifically assigned to the lender.

The following example shows how to record transactions related to assignment of accounts receivable via journal entries:

On March 1, 20X6, Company A borrowed $50,000 from a bank and signed a 12% one month note payable. The bank charged 1% initial fee. Company A assigned $73,000 of its accounts receivable to the bank as a security. During March 20X6, the company collected $70,000 of the assigned accounts receivable and paid the principle and interest on note payable to the bank on April 1. $3,000 of the sales were returned by the customers.

Record the necessary journal entries by Company A.

Journal Entries on March 1

Initial fee = 0.01 × 50,000 = 500

Cash received = 50,000 – 500 = 49,500

The accounts receivable don't actually change ownership. But they may be to transferred to another account as shown the following journal entry. The impact on the balance sheet is only related to presentation, so this journal entry may not actually be passed. Usually, the fact that accounts receivable have been assigned, is stated in the notes to the financial statements.

Journal Entries on April 1

Interest expense = 50,000 × 12%/12 = 500

by Irfanullah Jan, ACCA and last modified on Oct 29, 2020

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Notice of Assignment of Accounts Receivable Under the PPSA: What Every Factor Should Know

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INTRODUCTION

Factoring is the legal relationship between a financial institution (the “Factor”) and a business (the “Client”) selling goods or providing services to a trade customer (the “Customer”), pursuant to which the Factor purchases the accounts receivable owing to the Client by its Customer. The Courts in Ontario have determined that a factoring agreement creates a security interest and, as such, is subject to the provisions of the Ontario Personal Property Security Act R.S.O. 1990 c.P.10 (the “PPSA”). This means, among other things, that the Factor must register a financing statement against the Client under the PPSA claiming a security interest in the Client’s accounts receivable. A factoring agreement may be on a notification or a non-notification basis.

A factoring agreement on a notification basis requires that the Client’s Customer be notified regarding the purchase of the accounts receivable by the Factor and the assignment of the accounts receivable by the Client to the Factor. One purpose of notifying the Customer is to require the Customer to make payment on the accounts receivable directly to the Factor, instead of to the Client.

A notice of assignment is governed by Section 40(2) of the PPSA, which states that an account debtor (i.e., the Customer) may pay the assignor (i.e., the Client) until the Customer receives notice, reasonably identifying the relevant rights, that the accounts receivable have been assigned. If requested by the Customer, the Factor is required, within a reasonable period of time, to furnish proof of the assignment and, if the Factor fails to do so, the Customer may pay the Client.

What constitutes adequate notice of an assignment of accounts receivable? The PPSA does not set out a statutory form of notice of assignment. In RPG Receivables Purchase Group Inc. v. Krones Machinery Co. Limited , 2010 ONSC 2372, C. W. Hourigan J. of the Ontario Superior Court of Justice was required to review a notification of assignment and to determine whether it was adequate. The Court’s decision is an important guide to the essential elements that should be included in the notice of assignment.

The facts were as follows:

1. On July 14, 2005, RPG Receivables Purchase Group Inc. (“RPG”) entered into a factoring agreement with its client Kennedy Automation Limited (“Kennedy”), pursuant to which RPG agreed to purchase certain of Kennedy’s accounts receivable, including accounts receivable due from its customer Krones Machinery Co. Limited (“Krones”).

2. On July 14, 2005, Kennedy faxed a notification of assignment to Krones, which read as follows:

“NOTIFICATION OF ASSIGNMENT

In order to grow and serve you better, we have retained the services of RPG Receivables Purchase Group Inc. to accelerate and stabilize our cash flow. Through their accounts receivable program, RPG has purchased and we have assigned to them all of our right, title and interest in all currently outstanding as well as all future accounts receivable from your company.

We request that all payments be made payable and mailed directly to:

RPG Receivables Purchase Group Inc. (“RPG”)

Suite 300, 221 Lakeshore Road East

Oakville, ON L6J 1H7

Tel (905) 338-8777 (800) 837-0265

Fax (905) 842-0242

This notice of assignment and payment instructions will remain in full force and effect until RPG advises you otherwise in writing. Please note that their receipt of payment is the only valid discharge of the debt and that RPG’s interest has been registered under the Personal Property Security Act of the Province of Ontario.

Although this notification is effective upon receipt by you, in order to complete RPG’s records, we would appreciate your acknowledgement of this notification and your confirmation that:

• the invoices on the attached statement are for goods and/ or services completed to your satisfaction (please note any exceptions or simply provide a listing from your accounts payable); and
• that payments will be scheduled in accordance with the invoice terms and that your accounts payable records have been modified to ensure payment of the full invoice amounts directly to RPG or you will notify RPG of any disputes or potential chargebacks in a timely manner.

Please fax and mail the signed copy of this letter to RPG Receivables Purchase Group Inc., who shall be entitled to rely upon your notification and confirmation as a separate agreement made between you and them. Thanks for your help and cooperation. We look forward to serving you in the future.”

3. On August 5, 2006, Krones executed the notification of assignment and returned the executed copy to RPG.

4. In 2007, Kennedy entered into agreements with Krones for the supply of services and materials to Krones in relation to various projects including projects in Etobicoke, Edmonton, and Moncton.

5. Before Kennedy submitted its invoices to Krones, Kennedy provided the invoices to RPG and RPG stamped each invoice as follows:

“NOTICE OF ASSIGNMENT All payments hereunder have been assigned and are to be made directly to:

RPG RECEIVABLES PURCHASE GROUP INC.

221 Lakeshore Road East, Suite 300

Any offsets or claims should be reported to:

(905) 338-8777 Ontario

(800) 837-0265

Fax (905) 842-0242”

6. Krones paid 13 of the 16 invoices issued by Kennedy. RPG did not receive any notice from Krones regarding any disputes, off-sets, chargebacks or claims arising out of the Edmonton or Etobicoke projects.

7. At or about the time that the three unpaid invoices were rendered, Kennedy began to experience difficulty in paying its subcontractors on the Moncton project.

8. When the Moncton project ran into difficulty, Krones stopped making payments on the Edmonton and Etobicoke invoices in a timely fashion.

9. RPG commenced an action against Krones in respect of the unpaid invoices for the Moncton project that RPG had factored.

10. Krones also commenced an action for damages against Kennedy relating to the Moncton project.

11. Krones denied liability in respect of the unpaid invoices on the grounds that it had a right to set- off due to alleged overpayments, chargebacks, and damages relating to the Moncton project. It also raised issues with respect to the validity of the assignment of the invoices by Kennedy to RPG and the validity of the invoices.

12. The Court decided in favour of RPG and granted it summary judgment in the amount of $183,172.61, plus interest, for payment of the three outstanding invoices.

THE DEFENCE OF SET-OFF

The primary defence of Krones was that it had a valid defence of set- off. In reviewing this defence, the Court referred to the legal principle of “mutuality”. In order to establish a valid claim of legal set-off, there must be mutuality which requires that the debts be between the same parties and that the debts be in the same right. The Court stated that this mutuality is lost where the debt has been assigned to another party (i.e., the Factor), unless the rights to set-off have accrued between the debtor (i.e., the Customer) and the original creditor (i.e., the Client) prior to receipt of the notice of assignment by the debtor. At the time that the accounts receivable owing by Krones to Kennedy were assigned to RPG, no right of set- off had accrued in respect of the alleged overpayments, chargebacks, and damages relating to the Moncton property. Therefore, Krones had no legal right to set-off, because the mutuality required for this defence was lost when the accounts receivable were assigned by Kennedy to RPG.

The Court also reviewed the purchase order for the Moncton project to see whether it contained a contractual right of set-off. The Court rejected this claim by Krones and found that there was no contractual right of set-off.

Finally, the Court considered the issue of equitable set-off and concluded that it was not available to Krones.

OTHER DEFENCES

In its other defences, Krones took issue with the validity of the invoices and the validity of the assignment by Kennedy to RPG. Krones argued that the notification of the assignment was limited to the invoice attached to the notification of assignment. The Court rejected this argument for three reasons:

1. This argument ignored the clear statement in the notice of assignment that “RPG has purchased and we have assigned to them all of our right, title and interest in all currently outstanding as well all future accounts receivable from your company”.

2. Each of the disputed invoices contained a stamped notification of assignment; and

3. Krones paid RPG directly for 13 of the 16 invoices. The Court also rejected a number of other arguments raised by Krones in its defence relating to the validity of the invoices.

CONCLUSIONS

In a notification factoring arrangement, a Factor needs to protect its interest in the purchased accounts receivable by giving written notice of the assignment to the Client’s Customer. According to Section 40(2) of the PPSA, the Customer may continue to pay the Client until the Customer receives notice that the accounts receivable have been assigned to the Factor. However, the PPSA does not set out a statutory form of notice, nor does the PPSA deal with any right of set- off that the Customer may claim with respect to the purchased accounts receivable. In general, a Factor can only “step into the shoes” of his Client and assert the same right that his Client has against the Customer. This means that, if the Customer has any right to claim a set-off against the accounts receivable owing to the Client, then the Factor is required to accept the reduction in payment as a result of any legitimate claim asserted by the Customer.

In order to protect its interest in the purchased accounts receivable, the Factor should send a notice of assignment, which when signed by the Customer, should accomplish the following purposes:

1. it should require the Customer to make payment on the purchased invoices directly to the Factor, instead of to the Client;

2. it should request the Customer to verify the accuracy of the purchased invoices;

3. it should eliminate the Customer’s right to claim any set-off or reduction in the amount payable on the accounts receivable in respect of the Client’s obligations arising after the delivery of the notice; and

4. It should create an enforceable direct contract between the Factor and the Customer.

Since the notification of assignment in the RPG case has been given the “judicial seal of approval”, it is recommended that this form be used by a Factor in Ontario. It is also recommended that the Factor follow the procedure referred to in the RPG case pursuant to which the Customer is requested to acknowledge and confirm the terms of the notification of assignment and return a signed copy to the Factor.

The Court in RPG also referred to the “stamped notification of assignment” on each of the disputed invoices as one of the reasons for rejecting the Customer’s defences. For this reason, it is recommended that this form of stamp also be used by a Factor in Ontario on each factored invoice before the invoice is submitted to the Customer.

If a Factor follows the above procedures, then the Factor should be able to collect from the Customer on the invoice, regardless of what issues arise between the Client and the Customer subsequent to the delivery of the notice of assignment. If the Customer refuses to acknowledge and sign the notice of assignment, then the Factor will have limited recourse against the Customer and will have to make a business decision regarding the risk involved in funding the invoice. Even if the Customer acknowledges and signs the notice of assignment, the Factor will still have to be on the alert for any future disputes between the Client and the Customer. For example, the form of notification used in the RPG case requires the Customer to notify the Factor of “any disputes or potential chargebacks” and the stamp on the invoices in this case requires the Customer to report “any offsets or claims”. If the Customer notifies the Factor about any such disputes, chargebacks, offsets, or claims, then the Factor will also have to evaluate the funding of the invoice.

A properly drafted notice of assignment will put the Factor in a stronger position to resist any reduction in payment claimed by the Customer. As a practical matter, however, the Factor should also try to confirm with the Customer prior to funding an invoice that there are no disputes between the Customer and the Client. This extra step could avoid the time and expense of litigation over the purchased accounts receivable.

Jeffrey Alpert

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Assignment of Accounts Receivables and Factoring Agreements in the Construction Industry: How Can They Affect an Owner/Developer's Project?

It is not uncommon that companies with cash flow problems or those that have a desire to be paid on expedited terms assign their accounts receivables as collateral for a secured loan or they factor them. This can happen in any industry. What impacts can this have on a construction project when a contractor or vendor assigns or factors its accounts receivable?

First let's understand the difference between the two routes a contractor may take.

• In the case of assignment, the financial institution analyzes the accounts receivable aging report and for each invoice that qualifies the assignee generally receives between 50-85 percent of the outstanding balance in cash. Depending on the lender the contractor may have to assign all of the receivables or specific receivables to secure the loan. The benefit of this arrangement is that the contractor retains ownership of the accounts as long as the contractor makes loan payments and the lender deals directly with the contractor so customers may never know the contractor borrowed on their outstanding accounts.
• In the case of factoring, the contractor sells its accounts receivable to the financial institution or the factor. The factor analyzes the accounts receivable aging report to see which accounts meet their criteria. Factors will pay anywhere from approximately 65-90%. Factoring gives the contractor instant cash and puts the burden on collecting receivables on the factor. Factoring is generally expensive because the factoring companies charge high fees and they may retain recourse rights.

One may argue that a project owner or developer should not care whether a contractor assigns or factors their accounts receivable as long as they keep working. However, in the case of factoring especially, it can have an impact because the factor will require payment to be made directly to them. Presuming a project has a construction loan, the lender will not simply fund to an unknown company that has not been pre-approved by the lender. In addition, lenders and owners generally will not and should not make payments without receiving a lien waiver from the payee, which the factor may not be able to provide. If the lender will not fund, the contractor may have a basis to stop work which could delay the project.

This can be avoided, or at least discouraged, by having the proper language in the contract to prevent the assignment or the factoring. Most often the concern is the contractor assigning the agreement to another contractor which most contracts would adequately protect against by stating that the contract cannot be assigned without the consent of the owner. But sometimes that language is not enough because in both scenarios described above, the contract itself is not being assigned or sold, only the receivable.

Language such as: "Neither party to the Contract shall assign the Contract without written consent of the other" may not prevent a contractor from assigning the account receivable or factoring.

Broader, yet more specific language such as: "Contractor shall not assign or transfer its interest in this Contract or assign or transfer any right it may have under the same or the proceeds payable hereunder or any part hereof ..." not only prohibits assignment of the contract but certain interests in the contract which is better equipped to prevent against factoring. When assignees or factoring companies review the receivables they may consider contract language which expressly prohibits an assignment or factoring of the receivables which may keep your project out of such arrangements, which could impact your lender's funding and progress of the project.

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• Factoring and the Assignment of Accounts Receivable

Factoring and the Assignment of Accounts Receivable Published Date: 31 Oct 2021

The UAE recently passed Federal Decree Law No. (16) of 2021 (“Decree”) which comes to regulate the factoring and the assignment of accounts receivable, the practice of which was regulated under the Civil Code. The Decree addresses the assignment of accounts receivable (“Assignment”) and regulates the relationship between the assignor (“Assignor”), assignee (“Assignee”) and the Assignor’s debtor (“Debtor”). Moreover, the Decree outlines that any factoring activities require a license from the Central Bank.

Regulating Factoring

Whilst factoring is not heavily addressed throughout the Decree, the regulation impacts a widespread practice in the market. Factoring allows businesses to sell their invoices to third parties at a discounted price, facilitating cashflow and bypassing long waiting periods commonly associated with the payment of invoices, and increases finances for trade.

In a market supported by factoring and receivables finance structures, this brings with it challenges constantly faced by financiers, insurers and customers worldwide; the Decree calls for such debtor finance practices to be exercised solely by licensed institutions in an attempt to combat money laundering practices.

Although factoring practices by unlicensed parties may not cease to exist overnight and such practices may indeed continue; if a dispute arises between the parties, for example in terms of payment by the debtor or by the third party, the courts may nullify the arrangement declaring it contrary to the law.

Assignments of Accounts Receivable

The scope of the Decree extends to Assignments within civil and commercial transactions, but excludes, inter alia: personal or household related transactions, foreign exchange transactions, and rights to payments by documentary credits and letters of guarantee.

The Decree generally permits the Assignor, Assignee and Debtor to agree on the provisions governing the rights of each and allows the Assignor to give certain undertakings in relation to the Assignment, including undertakings that the Debtor waives his right to defenses. Therefore, we expect more stringent requirements from banks and financial institutions, for example, in terms of requesting Assignors to include waivers of defense clauses in the terms of the original agreement between the Debtor and Assignor (“Original Contract”), on behalf of Debtors.

It is expected that registrations of Assignments in the Emirates Movable Collateral Registry (“EMCR”) will increase as registration provides Assignees senior status as to the collection of the receivables.

The Decree now outlines the means of enforcement against receivables as agreed between the parties or per Law No. (4) of 2020 on the Security of Moveable Assets, thereby allowing Assignees to enforce the Assignment directly rather than through litigation. As clearer processes of enforcement against Assignments have been mapped out by law, it is an expectation that more enforcement actions will also arise.

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IFSCA Guidelines on Factoring and Forfaiting of Receivables

International Financial Services Centres Authority

F. No 172/ IFSCA/Finance Company Regulations/2021-22/10

August 17, 2021

All IFSC Banking Units /Finance Companies/Finance Units/Participants on ITFS platform in the International Financial Services Centre (IFSC)

Subject: Guidelines on Factoring and Forfaiting of Receivables

Reference is drawn to the International Financial Services Centres Authority (Finance Company) Regulations, 2021 (hereinafter referred to as ‘Finance Company Regulations’) which have been notified in the official gazette on March 25, 2021.

2. The International Financial Services Centres Authority (hereinafter referred to as “Authority”), in order to regulate the Factoring and Forfaiting activity as mentioned in regulation 5(1)(i)(b) of the Regulations by the Finance Company/ Finance Unit in the International Financial Services Centre (hereinafter referred to as “IFSC”) in India, directs the entities concerned to follow the Guidelines as specified below:

3. Applicability

3.1 These Guidelines shall be applicable to Finance Companies / Finance Units registered with the Authority under regulation 3 of the Regulations that are intending to undertake the activity of Factoring and Forfaiting of receivables.

3.2 Part I of these Guidelines shall be applicable to IFSC Banking Units (‘IBUs’) licensed by the Authority under IFSC (Banking) Regulations, 2020, to undertake permissible activities subject to such prudential regulations as may be applicable to them.

3.3 Part I of these Guidelines shall also be applicable to all participants registered on ‘ITFS Platform’ for undertaking permissible Factoring and Forfaiting transactions under the Framework for setting up of International Trade Financing Services Platform (‘ITFS’) for providing trade finance services at International Financial Services Centres (‘IFSCs’) dated July 9, 2021.

4. Definitions

For the purpose of implementation of these Guidelines the following definitions shall be referred to:

(i) “Assignment” means transfer by agreement to a factor of an undivided interest, in whole or in part, in the receivables of an assignor due from a debtor;

(ii) “Assignee” means a factor in whose favour the receivable is transferred;

(iii) “Assignor” means any person who is the owner of any receivable;

(iv) “Debtor” means any person liable to the assignor, whether under a contract or otherwise, to pay any receivable or discharge any obligation in respect of the receivable whether existing, accruing, future, conditional or contingent;

(v) “Factor” means an entity engaged in the factoring business in the IFSC and includes a Financier under ITFS framework;

(vi) “Factoring business” means the business of acquisition of receivables of assignor by accepting assignment of such receivables or financing, whether by way of making loans or advances or otherwise against the security interest over any receivables but does not include:

(a) credit facilities provided by an IBU or a Finance Company/Finance Unit in its ordinary course of business against security of receivables;

(b) any activity as commission agent or otherwise for sale of agricultural produce or goods of any kind whatsoever or any activity relating to the production, storage, supply, distribution, acquisition or control of such produce or goods or provision of any services.

(vii) “Financial Contract” means any spot, forward, future, option or swap transaction involving interest rates, commodities, currencies, shares, bonds, debentures or any other financial instrument, any repurchase of securities and lending transaction or any other similar transaction or combination of such transactions entered into in the financial markets;

(viii) “Forfaiter” means an entity engaged in the forfaiting business in the IFSC and includes Financiers under ITFS framework;

(ix) “Forfaiting business” means sale and purchase of the receivables on a without recourse basis, as permitted under these Guidelines;

(x) “netting agreement” means any agreement among the system participants for the purpose of determination by the system provider of the amount of money or securities due or payable or deliverable as a result of setting off or adjusting the payment obligations or delivery obligations among the system participants, including the claims and obligations arising out of the termination by the system provider, on the insolvency or dissolution or winding up of any system participant or such circumstances as the system provider, may specify in its rules or regulations or bye-laws (by whatever name called), of the transactions admitted for settlement at a future date so that only a net claim be demanded or a net obligation be owned; (xi) “Receivables” means the money owed by a debtor and not yet paid to the assignor for goods or services and includes payment of any sum (by whatever name called) required to be paid for the toll or for the use of any infrastructure facility or services.

All other words and expressions used but not defined in these Guidelines shall have the same meaning respectively assigned to them under IFSC (Banking) Regulations, 2020, ITFS Framework and Finance Company Regulations.

Guidelines on Factoring and Forfaiting transactions

A. Guidelines on Factoring of Receivables

5. Assignment of receivables

5.1 Any assignor may, by an agreement in writing, assign any receivable due and payable to him by any debtor, to any factor, being the assignee, for a consideration as may be agreed between the assignor and the assignee and the assignor shall at the time of such assignment, disclose to the assignee any defences and right of set off that may be available to the debtor.

5.2 On execution of agreement in writing for assignment of receivables, all the rights, remedies and any security interest created over any property exclusively to secure the due payment of receivable shall vest in the assignee and the assignee shall have an absolute right to recover such receivable and exercise all the rights and remedies of the assignor whether by way of damages or otherwise, or whether notice of assignment as provided in clause 6 below is given or not.

5.3 Where an assignment of receivables constituting security for repayment of any loan advanced by a creditor and where the assignor, with the written consent of such creditor, has given notice of such encumbrance to the assignee, on acceptance of such assignment, the assignee shall pay the consideration for such assignment to the creditor.

6. Notice to debtor and discharge of obligation of such debtor

An assignee of a receivable shall not be entitled to demand payment of the receivable from the debtor in respect of such receivables unless notice of such assignment is given to the debtor by the assignor or the assignee along with express authority in its favor granted by the assignor.

7. Discharge of liability of debtor on payment to assignee

Where a notice of assignment of receivable as stated in clause 6 above is given by the assignor or the assignee, as the case may be, the debtor on receipt of such notice, shall make payment to the assignee and payment made to such assignee in discharge of any obligation in relation to the receivables specified in the notice shall fully discharge the debtor making the payment, from corresponding liability in respect of such payment.

8. Payment made by debtor to assignor to be held in trust for benefit of assignee in certain cases

Where no notice of assignment of receivables as stated in clause 6 above is given by the assignor or under his authority by the assignee, any payment made by the debtor in respect of such receivables to the assignor shall be held in trust for the benefit of the assignee which shall be forthwith be paid over to such assignee or its agent duly authorized in this behalf.

9. Assignor prohibition

The conclusion by an Assignor regarding assignment of receivables with more than one assignee, at a time, in connection to the same invoice, is forbidden, and any such contracts shall be void. Any fraudulent breach of this provision shall be punishable in accordance with the provisions of the applicable law.

10. Rights and obligations of parties to contract for assignment of receivables

Without prejudice to the provisions contained in any other law for the time being in force, the debtor shall have the right to notice of assignment as stated in clause 6 above, before any demand is made on it by the assignee and until notice is served on the debtor, the debtor shall be entitled to make payments to the assignor in respect of assigned receivables in accordance with the original contract and such payment shall fully discharge the debtor from corresponding liability under the original contract.

11. Liability of debtor

Where a notice of assignment is served as stated in clause 6 above, the debtor shall,

(i) intimate the assignee the details of the deposits or advance or payment on account made to the assignor before the receipt of notice of assignment and also provide any other information to the assignee relating to the receivable as and when called upon by the assignee to do so;

(ii) not be entitled to a valid discharge of its liability in respect of assigned receivables, unless it makes the payment due on an assigned receivable to the assignee;

(iii) in the event of delay in payment by it, pay the receivable along with the interest as per the original contract or as agreed between the parties.

12. Assignor to be trustee of assignee

Notwithstanding anything to the contrary contained in any other law for the time being in force, where a debtor makes any payment to an assignor which represents payment due on an assigned receivable, such payment shall be deemed to be for the benefit of the assignee, and the assignor shall be deemed to have received the amount of such payment as a trustee of the assignee and the assignor shall make payment of such amount to the assignee.

13. Principle of debtor protection

13.1 Unless otherwise specified in these Guidelines, any assignment of the receivable shall not, without the express consent of the debtor in writing, affect the rights and obligations of the debtor (including the terms and conditions of the contract)

13.2 Consequent upon the assignment of receivables, the payment instruction under the contract entered into between assignor and debtor may modify the name of person, address or account to which the debtor is required to make payment, but such instructions shall not modify:

(i) The amount of debt specified in the original contract.

(ii) The date on which payment is to be made or other terms of the original contract relating to payment.

(iii) The place specified in the original contract at which payment is to be made or in case no such place is mentioned in the contract, the place of payment to a place other than where the debtor is situated.

14. Defences and right of set off of debtor

In a claim by the assignee against the debtor for payment of the assigned receivable, the debtor may raise against the assignee:

(i) all defences and right of set off arising from the original contract, entered into between the assignor and debtor or any other contract that was part of the same transaction, of which the debtor could avail himself as if the assignment had not been made and such claim were made by the assignor instead of assignee. Provided that the assignee shall, unless otherwise agreed between the parties, be entitled to recover from the assignor, any loss suffered by it as a result of any such defences and right of set off being exercised by the debtor;

(ii) any other right of set off, if it was available to the debtor at the time of notice of the assignment, as stated in clause 6 above, was received by the debtor.

15. Agreement not to raise defences or rights of set-off

15.1. The debtor may agree with the assignor in writing not to raise against the assignee, the defences and rights of set-off that it could raise pursuant to the above clause. Such an agreement precludes the debtor from raising against the assignee those defences and rights of set-off.

15.2. The debtor may not waive defences:

(i) arising from fraudulent acts on the part of the assignee; or

(ii) based on the debtor’s incapacity.

16. Modification of original contract

16.1 Any agreement made before service of notice of the assignment of a receivable, as stated in clause 6 above, between the assignor and the debtor that affects the assignee’s rights in respect of that receivable, shall be effective as against the assignee, and the assignee shall acquire rights in the assigned receivables, as modified by such agreement.

16.2 Any agreement made after notice of the assignment between the assignor and the debtor that affects the assignee’s rights shall be ineffective as against the assignee unless:

(i) the assignee consents to it or,

(ii) the receivable is not fully earned by performance and either the modification is provided for in the original contract or, in the context of the original contract, a reasonable assignee would consent to the modification.

16.3 Nothing contained in sub-clauses (16.1) and (16.2) shall affect any right of the assignor or the assignee arising from breach of an agreement between them.

17. Breach of Contract

If the assignor commits any breach of the original contract with the debtor, such breach shall not entitle the debtor to recover from the assignee any sum paid by the debtor to the assignor or the assignee pursuant to the factoring transactions: Provided however that nothing contained in this clause shall affect the rights of the debtor to claim from the assignor any loss or damages caused to him by reason of breach of the original contract.

18. Provisions of these Guidelines not to apply in certain cases

The provisions of factoring Guidelines shall not apply to any assignment of receivables arising under or from the following transactions, namely:

(i) any merger, acquisition or amalgamation of business activities or sale or change in the ownership or legal status of business;

(ii) any assignment of loan receivables by an IBU or Finance company/Finance unit to another IBU or Finance company/Finance unit;

(iii) securitization transactions (including assignment of receivables to special purpose vehicles or trusts that issue securities against such receivables, bought from a single debtor or single group of debtors);

(iv) financial contracts governed by netting agreements, except a receivable owed on the termination of all outstanding transactions;

(v) transactions on a recognised exchange;

(vi) foreign exchange transactions except receivables;

(vii) inter-bank payment systems, inter-bank payment agreements or clearance and settlement systems relating to securities or other financial assets or instruments;

(viii) bank deposits;

(ix) sale of goods or services for any personal, family or household use;

(x) letter of credit or independent guarantee;

(xi) a bilateral contract entered with the supplier the terms of which mandates the contract to be governed by the law of a country other than India; or

(xii) any other transaction(s) that may be specified by the Authority.

19. General Guidelines on risk management for undertaking factoring transactions

The assignee undertaking factoring business shall ensure proper and adequate control and reporting mechanisms including but not limited to:

(i) Assignee shall carry out a thorough credit appraisal of the debtors before entering into any factoring arrangement or prior to establishing lines of credit with the factor.

(ii) Factoring services shall be extended in respect of receivables which represent genuine trade transactions which are not void in nature and are not pertaining to any trade in dispute.

(iii) Assignee must be fully aware of the risks involved in factoring transactions such as sovereign risk, country risk, currency risk, transfer risk and documentation risk and credit risk.

(iv) Every Factor and/or ITFS on behalf of the Factor, as the case may be, shall register the particulars of every transaction of assignment of receivables in its favour with the Central Registry set-up under section 20 of the Securitisation and Reconstruction of Financial Assets and Enforcement of Security Interest Act, 2002 (54 of 2002), within the prescribed timelines from the date of such assignment, wherever applicable.

(v) Assignee may purchase credit insurance for its exposure from insurers in the IFSC or shall comply with provisions of Sec 2CB of the Insurance Act, 1938 for purchase of such insurance.

B. Guidelines on Forfaiting of Receivables

20. The following shall be adhered to while undertaking Forfaiting business by a Forfaiter:

(i) Receivable shall be a negotiable instrument.

(ii) Non-recourse to the Seller/Assignor.

(iii) Notice should be given to debtor whenever there is rediscounting of bill, by Forfaiter.

(iv) Payment by the importer/debtor must be guaranteed by a third party. (v) Adequate safeguards of Information Technology should be placed and Information Technology audit must be done regularly by all the entities as per clause 3 above, undertaking forfaiting activity must ensure that its contractual documents should specify the legal jurisdiction where the case will be resolved in the case of any dispute.

(vi) All the entities as per clause 3 above, must ascertain the accuracy of information provided by the exporter so as not to prejudice any rights, if there is a breach of warranties.

(vii) All Entities in IFSC undertaking forfaiting transactions shall adhere to International Chamber of Commerce Uniform Rules for Forfaiting (URF 800) (viii) All the entities as per clause 3 above, while undertaking forfaiting transactions shall adopt appropriate risk management policies as indicated in clause 19 above.

21. Powers of Authority to give directions and to collect information from factor/forfeiter

21.1 The Authority may, at any time, by general or special order, direct that every factor/forfaiter shall furnish to it, in such form, at such intervals and within such time, such statements, information or particulars relating to factoring/forfaiting business undertaken by them, as may be specified by the Authority from time to time.

21.2 The Authority may, if it considers necessary in the interest of business enterprises availing factoring/forfaiting services or in the interest of factor/forfaiter or interest of other stake holders give directions to a factor/forfaiter either generally or in particular or group of factors/forfaiters in respect of any matters relating to or connected with the factoring/forfaiting business undertaken by them.

21.3 If any factor/forfaiter fails to comply with any direction given by the Authority under sub-clause (21 .2), the Authority may prohibit such factor/forfaiter from undertaking the factoring/forfaiti ng business,

Provided that before prohibiting any factor/forfaiter from undertaking the factoring/forfaiting business, the factor/forfaiter shall be given a reasonable opportunity to file its written submissions.

22. All the entities as per clause 3 above, shall ensure compliance with these factoring and forfaiting Guidelines in addition to other applicable laws.

Prudential Guidelines

23. In addition to the above Guidelines, the Finance Company /Finance Unit undertaking factoring and/or forfaiting transactions shall adhere to the provisions of IFSCA (Finance Company) Regulations, 2021 and the Guidelines/Circulars issued thereunder.

24. Recognition of Non-Performing Assets (NPA)

24.1 The receivable acquired under factoring which is not paid by the due date, should be treated as NPA irrespective of when the receivable was acquired by the factor or whether the factoring was carried out on “recourse basis” or “non-recourse” basis. The entity on which the exposure was booked should be shown as NPA and provisioning be made accordingly.

24.2 For the Purpose of asset classification and provisioning, the Circular bearing F. No 172/ IFSCA/Finance Company/Unit Regulations/2021-22/3’ dated May 03, 2021 , on ‘Prudential Regulations and activity specific Guidelines’ issued by IFSCA, shall be adhered to.

25. Since under “without recourse” factoring transactions, the Finance Company/ Finance Unit is underwriting the credit risk on the debtor, there should be a clearly laid down Board-approved limit for all such underwriting commitments.

26. The Finance Company/ Finance Unit shall have a Board approved risk mitigation strategy or policy for identified risks while undertaking factoring and forfaiting business.

27. The factoring and forfaiting transactions shall be covered with the overall exposure ceiling as per the Authority’s circular bearing ‘F. No 172/ IFSCA/Finance Company/Unit Regulations/2021-22/6’ dated, May 25, 2021 on ‘Framework on Computation of Exposure Ceiling for Finance Companies/Finance Units’, as applicable. The exposure shall be reckoned as under:

(i) In case of factoring on “with-recourse” basis, the exposure would be reckoned on the assignor.

(ii) In case of factoring on “without-recourse” basis, the exposure would be reckoned on the debtor, irrespective of the credit risk cover! protection provided, except in cases of international factoring where the entire credit risk is assumed by import factor.

Miscellaneous

28. This Circular is issued in exercise of powers conferred by section 12 of the International Financial Services Centres Authority Act, 2019 to develop and regulate the financial products, financial services and financial institutions in the International Financial Services Centres.

29. A copy of this Circular is available on the website of the Authority at www. ifsca.gov.in/circular.

Yours faithfully

(R. Kumar) Head, Department of Banking [email protected]

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12 Jan 2022

New Federal Decree Law No. (16) of 2021 on Assignment of Receivables and Factoring

Authored by: Howrey Kamal

In Brief: This article discusses the recent enactment of Federal Decree Law No. (16) of 2021 on Assignment of Receivables and Factoring ( Assignment and Factoring Law ) and in particular it discusses:

• assignment under the Civil Code;
• assignment and factoring under the Assignment and Factoring Law; and
• priority and enforcement.

Assignment under the Civil Code

Historically, the law relating to assignment in the UAE has been governed by Federal Law No. 5 of 1985 on the Civil Transactions Law (the Civil Code ). The Civil Code deals with assignment in detail through Article 1106 to Article 1132.

Article 1106 of the Civil Code defines assignment to mean “an assignment of debt and claim from the liability of the assignor to the assignee”. An important note to make here is that the assignment provisions under the Civil Code only deal with assignment of ‘debt and claim’; that is, assignment of obligations rather than assignment of rights.

In an assignment of an obligation, A assigns to C its obligation to discharge a contractual claim or its obligation to pay B, whereas in an assignment of rights, A assigns to C its right to receive payment from B. One of the key provisions of assignment is that in order for it to be perfected or valid, notice has to be served to the counterparty and acknowledgment must be obtained. Article 1109 of the Civil Code states that “the validity of an assignment is conditioned upon the acceptance of the assignor, the assignee and the counterparty.” This means an assignment of an obligation (whether debt or claim) is not enforceable against the counterparty unless it agrees to it.

Assignment of rights has been governed by case law. The UAE Courts have been consistent in ruling that ‘consent’ or ‘acknowledgment’ in an assignment of rights from the ‘payor’ is not required and notice to the payor will suffice to perfect the assignment. The rationale for this is that in an assignment of rights no additional burden is imposed on the payor. For example, the Abu Dhabi Court of Cassation in Case No. 597 of 2012 stated that “an assignment of rights shall be established by mutual consent between the assignor and the assignee without the need to obtain the debtor’s consent. If the debtor has not been served with notice of assignment, the debtor can deal with its original creditor as the sole creditor.” The Court further stated that the counterparty will be bound by the assignment once it has become aware of the assignment.

Assignment and Factoring Law

The Assignment and Factoring Law was published on 9 September 2021, the first federal law in relation to assignment of right to payment and it came into force on 7 December 2021. As noted above, previously there was no UAE law on assignment of rights.

Assignment is defined in the Assignment and Factoring Law to mean “an agreement whereby the assignor assigns to the assignee its contractual rights for collecting a monetary amount owed by the Receivable's Debtor. The assignment involves an agreement to create a security interest over the receivable, to assign as a collateral and irrevocably sell the same.”

Article 2(2) of the Assignment and Factoring Law says that it applies to all commercial and civil transactions except for assignment of receivables that arise out of the following situations:

• a transaction carried for personal, family or household purposes;
• financial contracts regulated by netting agreements;
• foreign exchange transactions;
• systems and agreements of interbank payment, netting systems and adjustment relating to securities, assets or other financial instruments; and
• buyback of securities, assets or financial instruments deposited with a broker.

Article 2(3) of the Assignment and Factoring Law further says that it shall not apply to the following cases:

• the right to payments proven under endorsable instruments;
• the right to payments deposited into the credit accounts with banks; and
• the right to payments under securities, documentary credits and letters of guarantee.

Key provisions of the Assignment and Factoring Law

• The receivables must be generally or specifically described so that they can be identified (Article 4(4) of the Assignment and Factoring Law).
• Assignment of receivables can apply to future receivables (Article 4(5) of the Assignment and Factoring Law).
• Assignment will be effective regardless of any contractual agreement obliging the assignor not to assign its right to payment under the original agreement (Article 5(2) of the Assignment and Factoring Law).
• The counterparty will enjoy the same rights it has against the assignor under the original agreement and this includes right of set-off, however this can be contracted out (Articles 16 and 17 of the Assignment and Factoring Law).
• Once payment is made to the assignee the counterparty cannot claim it back from the assignee even if the assignor is in breach of the original contract (Article 19 of the Assignment and Factoring Law).
• Existing assignments can be registered in the Moveable Collateral Register within six months from 7 December 2021.

Enforceability of assignment and notice requirements

Article 4(2) of the Assignment and Factoring Law says that an assignment will be enforceable, once executed, between the assignor and the assignee even if notice has not been served on the counterparty (payor). This implies that if notice is not served on the counterparty, the assignment is still valid but in order for the assignment to be binding on the counterparty notice must be served, otherwise the counterparty will continue to pay the assignor.

As noted above, the Courts in the UAE have historically been consistent in ruling that an assignment of right does not requires consent of the counterparty and notice will suffice to perfect an assignment. The Assignment and Factoring Law maintains this position and does not require the counterparty to provide consent. However, the counterparty will only be bound by the assignment once notified and when payment instructions are received in accordance with Article 14 of the Assignment and Factoring Law.

Article 11(1) of the Assignment and Factoring Law provides that the assignor and the assignee may each serve notices and payment instructions to the counterparty and once notice is served, the counterparty is obliged to take payment instructions only from the assignee.

Priority and third-party rights

Articles 7 and 8 of the Assignment and Factoring Law provide that in relation to priority, the relevant provisions of the Federal Law No. (4) of 2020 on Securing Interest in Movable Property ( Movable Pledge Law ) will apply. Article 7(2) of the Assignment and Factoring Law particularly says that an assignment is not enforceable against third-parties (in other words, against competing creditors) unless it is registered in the Movable Collateral Register which is currently managed by Emirates Integrated Registries Company.

Under Article 10(1) of the Movable Pledge Law, a security right is effective against third-parties if:

• it is registered in the Movable Collateral Register;
• possession has been transferred to the pledgee; and
• the pledgee has taken control of the security assets.

The above priority in relation to assignment means that once an assignment of the right to receive payment is perfected by registration in the Movable Collateral Register, it will be binding against any subsequent assignment of the same right. This means a creditor under an assignment by way of security should immediately register the assignment in the Movable Collateral Register, in order to ensure priority over competing claims.

Factoring is defined in the Assignment and Factoring Law to mean a “transaction whereby the assignor assigns the current and/or future receivables to the assignee, or an agreement between the parties that the assignor shall retain the entries relating to and collect the receivable transferred and to afford protection to the assignee in case the Receivable's Debtor defaults on payment.”

A significant point to make is that the Assignment and Factoring Law provides that factoring can only be exercised by entities licensed by the UAE Central Bank. Although further guidance is anticipated from the UAE Central Bank in accordance with Article 25 of the Assignment and Factoring Law, no such guidance has been issued as at the date of the publication of this article. For any entities wishing to carry out factoring activities, it is important that they monitor any updates on this point and seek the relevant licence from the UAE Central Bank at the appropriate time.

Enforcement

The Assignment and Factoring Law does not provide a specific mechanism for enforcement should the counterparty refuse to pay the assignee upon receipt of payment instructions. However, Article 21 of the Assignment and Factoring Law says that the assignee can enforce its rights in accordance with provisions of the assignment or alternatively can take enforcement action under Chapters 7 and 8 of the Movable Pledge Law.

Chapter 7 of the Movable Pledge Law provides that the assignee can enjoy self-help (out of court enforcement) subject to notice being served on the counterparty and Chapter 8 of the Movable Pledge Law provides for an expedited court enforcement process. Under Chapter 8 of the of the Movable Pledge Law, the enforcement application is made to the Judge of Urgent Matters and the matter is considered by the Judge within a short timeline as set out in detail therein.

For enquiries in relation to the Assignment and Factoring Law, please contact the Banking & Finance team.

This article, together with any commentary, does not constitute legal advice. It is provided solely for information purposes on a complimentary basis, without consideration of any specific objectives, circumstances or facts. It reflects then current views of the writer which may modify in time and based on differing objectives, circumstances or facts. A writer's view may differ from views of colleagues and/or the firm. You should seek legal advice on each specific matter. Access to this article does not form an attorney-client relationship.

Howrey Kamal

Senior associate, +971 2 205 5300, [email protected].

In this Article, Howrey Kamal, Trainee Solicitor, discusses Federal Decree Law No. (16) of 2021 on Assignment of Receivables and Factoring which came into force on 7 December 2021.

Hadef successfully obtained a judgment in relation to the applicability of a Bank’s General Terms & Conditions to a party’s right to apply set-off

In this article, Howrey Kamal, Trainee Solicitor Dispute Resolution, discusses a significant judgment from the Abu Dhabi Court of Cassation regarding the applicability of a Bank’s General Terms & Conditions and the principles of set-off