A factor rate is a multiplier, not an interest rate, and the difference is where most of the confusion in this market lives. If you are advanced $100,000 at a factor of 1.35, you owe $135,000. The cost is $35,000. An operator who hears that number naturally compares it to a 35 percent loan, decides it is expensive but survivable, and signs. The comparison is wrong by a factor of roughly two and a half, and the reason is entirely mechanical.
Two things drive the gap. First, the term is a fraction of a year, so the cost has to be annualized. Second, the balance amortizes: you begin repaying on day one, so you never have use of the full $100,000 for anything close to the full term. Both effects push the effective cost up, and together they turn 35 percent into something in the vicinity of 90 percent. This article shows the arithmetic so you can run it yourself on any offer in about two minutes.
The three-step conversion
You do not need an amortization schedule or a spreadsheet function to get close enough for a decision. Three steps produce an estimate that is generally within a few points of the true internal rate of return.
- Compute the cost rate: total remittance minus amount funded, divided by amount funded.
- Annualize it: divide the cost rate by the term expressed in years.
- Double it: because level repayment means your average outstanding balance across the term is a little over half the original amount, the effective annual rate is roughly twice the simple annualized figure.
The doubling step is the one operators skip, and it is not a fudge. With daily remittance the balance declines every business day. Across a level-payment term the average balance outstanding is slightly above half the original principal, which means you are paying the full cost for roughly half the money. Dividing by half is the same as multiplying by two.
What the daily payment actually is
The remittance is usually collected on business days only, which is about 21.7 days a month and about 252 days a year. On the example above, $135,000 over nine months is roughly 195 business days, or $692 a day. Operators who budget from a monthly figure consistently underestimate the pressure, because the debit does not care that the fifteenth was slow.
The annualized version of that daily debit is the number a credit desk will use. $692 a day at 252 days is about $174,000 of annual debt service on a $100,000 advance. Hold that figure in mind when you compare structures: it is more annual debt service than a $600,000 five-year amortizing loan typically carries.
A conversion table you can check offers against
| Factor | Term | Cost rate | Simple annualized | Approximate effective annual cost |
|---|---|---|---|---|
| 1.20 | 6 months | 20% | 40% | About 78% |
| 1.25 | 9 months | 25% | 33% | About 66% |
| 1.32 | 12 months | 32% | 32% | About 63% |
| 1.35 | 9 months | 35% | 47% | About 92% |
| 1.40 | 6 months | 40% | 80% | About 157% |
| 1.49 | 4 months | 49% | 147% | About 288% |
Why term matters more than the factor
Notice what the table shows about term. A 1.32 factor over twelve months is cheaper on an annualized basis than a 1.25 factor over nine, even though the headline multiplier is higher. Term does more work than the factor rate does. When you are comparing two offers, the shorter one is usually the more expensive one even when its factor looks better.
Where fees change the answer
The conversion above assumes you receive the full amount. Frequently you do not. Origination or underwriting fees are commonly deducted from the funded amount rather than added to the remittance, which raises the effective cost in two directions at once: you owe the same total while receiving less.
Ask for the net funding amount in writing before you sign, not the gross. The single most useful question on any offer is: what number lands in my account, and what number leaves it in total? Everything else is derived from those two figures and the term.
Why early payoff usually does not save what you expect
With a loan, prepayment saves the future interest. With an advance, the obligation is a fixed dollar amount of remittance rather than accruing interest, so retiring it early generally means paying the same total sooner. That inverts the usual intuition: paying early does not reduce your cost, it increases your effective annualized cost, because you paid the same dollars over a shorter period.
Take the nine-month example and pay it off at day 65 of 195. You have remitted about $45,000 and you owe the remaining $90,000. Total outlay is still $135,000, but you had the money for roughly a third of the expected term. The effective annualized cost roughly triples. Unless the holder agrees in writing to a discount off the remaining remittance, early payoff is a liquidity decision, not a savings decision.
The one exception: a negotiated discount
The exception to all of the above is a discount negotiated in writing off the remaining remittance. That is the only mechanism by which retiring a position early reduces what you pay, and it exists because the holder is trading a smaller amount now for certainty against a larger amount collected over months.
Running the check on an offer in front of you
Five figures to extract from any term sheet
- Net amount actually deposited to your account, after all deductions.
- Total remittance: the full dollar amount you will repay.
- Remittance amount and cadence: daily on business days, weekly, or a percentage of card settlements.
- Expected term in business days, and whether it moves if receipts change.
- Whether any discount applies to early payoff, stated in writing.
With those five figures you can compute cost rate, annualize, double, and compare against any other structure on a common basis. That comparison is the whole point. An advance is not automatically wrong. There are genuinely time-sensitive situations where speed is worth a high cost, but it should be a decision made with the real number in view rather than the multiplier on the cover page.
Is a factor rate the same thing as an interest rate?
No. A factor rate is a multiplier applied once to the amount funded to produce a fixed total remittance. Interest accrues over time on an outstanding balance; a factor does not. That is why a factor rate cannot be compared directly to an APR without converting it first.
Why do lenders and funders quote costs so differently?
Because the products are structured differently. An advance is generally documented as a purchase of future receivables rather than a loan, and disclosure requirements for that structure vary by state. Several states now require standardized cost disclosures on commercial financing, which is helping, but the underlying quoting conventions still differ.
Is the doubling rule accurate?
It is an approximation, but a good one for level repayment over a short term. The exact figure depends on payment frequency and how the balance runs off, and the true internal rate of return is usually within a few points of the doubled estimate. For a go or no-go decision the approximation is more than sufficient.
What if my remittance is a percentage of card sales rather than a fixed daily amount?
Then the term floats with your volume, and the effective cost floats with it. Slower sales stretch the term, which lowers the annualized cost; strong sales compress it, which raises the annualized cost. Compute a range using your realistic best and worst monthly volumes rather than a single figure.
Does a lower factor always mean a cheaper deal?
No. Term matters more than the factor. A 1.32 factor over twelve months is generally cheaper on an annualized basis than a 1.25 factor over nine months, because the cost is spread over more time. Always convert before comparing.
Are the fees negotiable?
Sometimes, and it is worth asking, particularly the origination fee and any administrative charge deducted at funding. Reductions there improve the effective cost immediately because they increase the amount you actually receive against an unchanged remittance.
How do I compare an advance to a line of credit?
Put both on an annualized basis and then compare annual debt service, not just rate. A line drawn and repaid within a cycle can carry a very low effective annual cost because you only pay for the days you use it, while an advance charges the full fixed cost regardless. For recurring working-capital gaps the line is almost always the cheaper structure.
Where to start
Take whatever offer or existing position you have and run the three steps: cost rate, annualize, double. Then compute the annualized daily debit and compare it against your monthly cash generation. If the annualized debt service is a large fraction of your EBITDA, the offer is not a financing decision, it is a solvency decision.
If you already hold positions, do the same conversion on each one and rank them. That ranking is the starting point for every relief strategy, because it tells you which dollar of payoff buys the most relief.
Qualified Commercial Underwriting Desk
Credit and capital markets
The Qualified Commercial underwriting desk reviews commercial real estate, dealer and Main Street files daily. The Academy is written from that work (how files are actually read, priced and declined) rather than from a rate sheet.
Educational content only. Nothing here is a commitment to lend, an offer of credit, or tax, legal or accounting advice. Program terms, timelines and thresholds vary by lender, file and market conditions, and any figures shown are illustrative.