Factoring Agreement (India)

Factoring is a financial transaction in which a business (the 'assignor' or 'client') sells its trade receivables (invoices, bills of exchange, or other receivable claims against customers) to a specialised financial institution (the 'factor') at a discount. The factor provides the business with immediate cash (typically 70%–90% of the face value of the receivables), and then collects the full amount from the debtors when the receivables fall due. The factor earns the difference between the discounted purchase price and the amount collected. In India, factoring is regulated by the Factoring Regulation Act 2011 (as amended by the Factoring Regulation (Amendment) Act 2021), which was enacted to develop the factoring industry and provide a legal framework for assignment of receivables. Under the Act, only 'factors' registered with the Reserve Bank of India (RBI) as Non-Banking Financial Companies (NBFCs) holding a 'Certificate of Registration' for factoring business can conduct factoring activities as a principal business. Scheduled Commercial Banks and certain other financial institutions are also permitted to engage in factoring.

The key distinction between recourse and non-recourse factoring in India lies in who bears the credit risk of the debtor (the customer who owes money on the receivable). Recourse Factoring: In recourse factoring, the assignor (the business selling the receivables) retains the credit risk. If the debtor fails to pay the receivable when due, the factor has the right to 'recourse' against the assignor — meaning the assignor must buy back the unpaid receivable or repay the advance. Recourse factoring is more common in India as it carries lower risk for the factor, enabling factors to offer higher advance rates (up to 90% of invoice value) and lower discount rates. The assignor essentially uses factoring as a financing tool while remaining responsible for the quality of its receivables. Non-Recourse Factoring: In non-recourse factoring, the factor assumes the full credit risk of the debtor. If the debtor becomes insolvent or defaults, the factor cannot claim repayment from the assignor. The factor prices this higher risk into a lower advance rate (typically 70%–80% of invoice value) and a higher discount/factor fee. Non-recourse factoring effectively provides credit insurance to the assignor. This structure is common in export factoring (international trade) and in the factoring of receivables from highly creditworthy large corporate debtors.

Micro, Small and Medium Enterprises (MSMEs) in India have been the primary beneficiaries of the factoring regulatory framework, particularly following the introduction of the Trade Receivables Discounting System (TReDS) and amendments to the Factoring Regulation Act 2011. TReDS Platform: TReDS is an electronic platform introduced by the RBI in 2014 to enable MSMEs to discount their trade receivables — invoices raised on large corporate buyers — through a competitive bidding process among multiple financiers (banks and NBFCs). TReDS connects three parties: the MSME seller (assignor), the corporate buyer (the debtor/confirming party), and the financier (factor). Once the corporate buyer confirms the invoice on TReDS, multiple financiers can bid to finance it, and the MSME receives funds immediately at a competitive discount rate. Mandatory TReDS Onboarding: The RBI has mandated that companies with a turnover exceeding ₹500 crore must onboard TReDS to facilitate MSME payments. This policy reduces delayed payments to MSMEs, a chronic problem in India. MSMED Act Protection: The Micro, Small and Medium Enterprises Development Act 2006 (MSMED Act) requires buyers to pay MSMEs within 45 days of acceptance of goods/services. If payment is delayed, the buyer must pay compound interest at three times the bank rate (currently approximately 14%–15% per annum). Factoring MSMEs can avoid this delay entirely by receiving immediate payment from the factor.

Under Section 19 of the Factoring Regulation Act 2011, as significantly strengthened by the 2021 amendment, every assignment of receivables under a factoring agreement must be registered with the Central Registry of Securitisation Asset Reconstruction and Security Interest of India (CERSAI) — the central repository established under the SARFAESI Act 2002. Registration Requirement: The factor must register the particulars of the assignment of receivables with CERSAI within 30 days of the date of the factoring agreement. The registration must include: the name and address of the assignor and the factor, the date of the assignment, the description of the receivables assigned (including debtor details and invoice details), the outstanding amount of receivables, and any other particulars prescribed by RBI. Purpose of Registration: Registration with CERSAI creates a public record of the assignment, which is critical to prevent double-financing (a fraudulent practice where a company assigns the same invoice to multiple factors). It also determines priority among competing assignments of the same receivables — the first registered assignment generally takes priority. Consequences of Non-Registration: An assignment not registered with CERSAI within the prescribed period may be challenged by a liquidator, official receiver, or subsequent creditor of the assignor in insolvency proceedings. The factor risks losing its priority claim on the receivables if registration is delayed.

A Factoring Agreement (India) does not legally require a lawyer in India, and individuals and businesses may draft and execute the document independently. The Indian Contract Act, 1872 does not mandate legal representation for the creation or signing of this type of document. However, seeking independent legal advice from a qualified India lawyer is recommended for transactions involving substantial financial value, complex regulatory requirements, or cross-border elements where multiple legal jurisdictions may apply. A lawyer can verify that the document complies with all applicable statutory requirements, identify potential risks specific to the transaction, and confirm that the terms adequately protect the interests of all parties involved. The Supreme Court of India has jurisdiction over disputes arising from this type of document, and Registrar of Companies (ROC) may impose additional compliance obligations depending on the nature of the underlying transaction. Professional legal review is particularly advisable where the document will be submitted to government agencies or used as evidence in legal proceedings.