In-house vs third party customer financing: Which is the best? Do you want to know? If YES, here is how to offer financing to your customers in 6 simple steps.
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What is Customer Financing?
Offering consumer financing is one of the most effective tools for increasing revenue in your business. Customer financing options let consumers acquire goods or services from a business up-front without paying for them in full at the time of purchase.
The financing company pays you for the product or service up-front, and your customer pays the financing company back in installments on a predetermined payment plan. This means that a customer on a limited budget doesn’t have to wait to accumulate more money before he or she can get his or her hands on your latest products and sales.
This type of financing is usually targeted at potential customers who are on the fence about buying goods or services from a business because they are deterred by the upfront payment.
Why Risk Offering Customer Financing?
Customer financing allows customers to enroll in an affordable monthly payment plan in a certain business so they don’t have to pay all at once for the goods or services they purchase. Offering customer financing can help you make more sales and increase customer loyalty for your business.
A lot of people erroneously think that businesses that can offer financing are only businesses that are considered big, and have a huge customer base. But this is not the case as both large and small businesses have access to financing suitable for most of their current and future customers. They only need to pick out the most suitable financing option for them.
In-House Financing Vs Third Party Financing – Which is the Best?
If you want to make financing offers to your customers, you can choose either to administer the loans yourself or to contract a third party financing firm to run them on your behalf. Though you have to know that most businesses opt to having third parties handle the financing for them.
Do you finance in-house or contract a third party to finance on your behalf? The fact that there is a decision to make implies that the answer isn’t the same for everyone, and any choice you make comes with its own benefits and disadvantages. If you decide to contract a third party, it also means that you will have to give a percentage of the sales made to the agency.
- Focus on Core Competence
A lot of companies feel their core business is offering services and growing their brands, and anything that takes them away from their core expertise is bad for business. For businesses of this line of thinking, they would prefer to focus on new business strategies and not chasing customers around for payments.
Also, more established businesses may grow to understand what percentage of their customers may become delinquent, and what the cost of financing and collecting on those accounts will be through a third party. They can adjust their business model accordingly, and still remain profitable.
- Cost Comparison
The cost of hiring a third party to help your business with customer financing isn’t cheap. You may have to pay such agencies anywhere from 15% to 40% of the money they help you make. That is money that originally belongs to your organization.
Obviously, there are substantial costs associated with offering costumer financing yourself. The idea of having direct oversight of how your customers are being treated is very crucial. Businesses spend an incredible amount of time and resources promoting a trustworthy image to potential customers.
- Customer Service
A third-party financing company will obviously have less interest in retaining a customer’s trust; they’re only interested in one thing: collecting dollars. But a business providing these services on its own might realize that just because a client is delinquent, doesn’t mean they won’t patronize your business if they ever need your products or services again. Not knowing how their customers are being treated simply isn’t worth the risk for many businesses.
For legal and regulatory compliance, and to protect their brand and the goodwill they have built with customers, a lot of companies offering consumer financing are turning to agencies. These intermediary partners help keep sales and collections moving forward, providing regular updates and analysis tools, and typically improving debt recoveries.
Nowadays, a lot of companies who offer customer financing settle on a hybrid of the two paths. They finance and collect on accounts that are more likely to pay quickly, such as customers who are recently delinquent, and sell portfolios of more delinquent accounts to agencies for significantly reduced prices.
Indeed the decision to run customer financing in-house or through a third party is not straightforward. While it’s unquestionable that every profit organisation values their bottom line, that’s only the beginning of what’s at risk with either choice. An informed, thoughtful decision followed by careful analysis and communication will lead you down the path that’s best for your organization.
Offering Financing to Your Customers – Requirements You Must Meet
Before you start, however, it is important to understand that the process of offering customer financing is highly regulated by the government to avoid misappropriation. Because of this, for you to start offering customer financing, you have to register with the Financial Conduct Authority (FCA).
You need this registration if you are selling goods or services on credit, offering hire purchase, hiring out goods for more than 3 months or lending money to customers in any other way. You would also need to register if you are just introducing your customers to a third party financing company.
Failure to do this can get you fined or imprisoned. But don’t need FCA approval if you operate a business-to-business service and you offer financing services only to other incorporated businesses (not sole traders or small partnerships).
Once you get your authorization, you need to be careful as any mistakes you make can have dire consequences. There’s no specific limit on the interest rate or other charges you can impose, but if a court decides that you’ve treated customers unfairly or misled them, you may have to pay back the full value of the loan and risk losing your FCA authorization. So you need to be careful.
Once that has been settled, you have to look for ways to give your customers better financing experience. For this to happen, there are certain information you are obligated to provide them with such as, the annual percentage rate (APR) you will charge, the total amount financed, details of how much they need to repay and when, and details of any other charges that the customer may incur, such as charges for missed or late repayments.
Though this issue deals on finances, but you are not mandated to run credit checks on your customers. But if you feel you have to, the cost of the credit checks has to be on you. You must also tell them if you’re going to pass on their debt or details to any third parties. Note that you can only send their details to third parties if they approve.
How to Offer Financing to your Customers in 6 Simple Steps
If you wish to offer financing to your customers, you have to go through certain steps to get it done right, and they include;
- Educate your customers on your financing offer
For your customers to apply for your financing offer, they have to know that you are offering one. You need to select your best or most expensive products for this financing so that it can be worth it. You are not expected to offer financing for every product you have. Just pick the ones you know people would love but cannot always afford to pay for upfront because of the cost.
- Application process
Once your customers have been intimated on the available financing option, they now have to apply in order to get it. Typically, your customers have to apply directly to the company offering the financing and not through you. They should be advised on how to go about this.
- Approval process
Once they have applied, they tend to get a message in a short time, typically a few minutes or hours. This message is to inform them whether or not they have been approved for the financing, and how much they have been approved for.
- Offer of promotional rates
If a customer qualifies for the financing, they are usually offered promotional rates immediately. These promotional rates are to encourage them to use their new credit immediately to make purchases in your store. For instance, some companies offer customers no interest loans if you make a certain purchase, and if they are able to pay within a stipulated time frame.
Once a customer has been approved, they are given a barcode or identification number which they can use to pay for the product they purchased. The financing company will pay you (the seller) the same way you get paid with any other credit card purchase. This is great because you get to receive your payment in full while the customer now owes the financing house.
- Customer starts making monthly repayment to the financing company
Once payment is complete, the customer will take home the products they’ve purchased and will start making monthly payments, unless they have been offered promotional repayment terms. It is important to honour these payment terms to avoid consequences. But this consequence would come from the financing company and not the seller since the seller has completed his or her own end of the transaction.
How to Know If a Financing Option is Right for You
They are a lot of companies offering customers financing and they would tend to come to you in order to do business with you. But you have to determine if this financing house is right for your business, and if it would be a good fit for your customers. It is on record that many companies have fallen victim to fraudulent financiers, and you don’t want to make the same mistake. Here are a few ways you can determine of a financing house is right for you.
a. The cost
The most important thing to look out for when seeking customer financing for your business is the cost. The cost of implementing a customer financing program depends on which consumer financing company you use. If the financing company is offering margins that don’t make sense because the financing product is too expensive for your business, there’s little point in offering it to your customers. It could affect you in the long run.
Financing houses offer their charges in different formats, and they include:
- Free of charge
- Discount rate
- Flat rate
For charge free, the financing solutions are usually completely free for the merchant, so you have no fees to pay. For discount rate, the financing companies charge small business owners a percentage (1% – 5% is typical, but it can be higher) of each financed transaction; while for the flat rate, firms charge a flat monthly rate which covers an unlimited number of customer applications for financing.
The average is around $40-50 per month. There may also be a one-time initial setup fee. While a flat rate may be acceptable to your business, a discount rate might be tough depending on your margins. So you need to choose the one that suits you best.
b. If your customers qualify for financing
There is no use listing for product financing if the people who the product is meant for may be people who by their circumstances do not qualify for product financing. You have to note that financing companies look at certain things before agreeing to enter a financing obligation. They tend to check your customer’s credit profile, employment status, etc. For your product; they would check the type of product/service, cost of product/service, etc.
Again, a lot of financing companies may require your customers to be a prime or a prime-plus borrower. This typically means having a credit score above 650 with no recent negative credit events like bankruptcy or foreclosure. You should note that there are also low credit customer financing and no credit check customer financing options available, but they will be more expensive for both the merchant and the customer.
The financing company would also require your customers to be prime spenders. Some finance companies will set a minimum purchase of $1,000, while others will be much lower. So typically, the financing houses would require your customers to spend a certain amount before they qualify for funding.
c. Which option is Suitable for Your Business and Target Consumer?
One of the most important factors to consider when offering customer financing for your small business is whether it makes sense for the products or services you offer. Do you offer relatively inexpensive products or services or bigger ticket products or services?
And how much of your target consumer has the incentives to pay for these products or services up-front? Also you might want to offer customer financing if your average buyer would be hesitant or unable to purchase your goods and services without a payment plan because of cost.
d. Will Consumer Financing Companies Approve Your Target Consumer?
Have it in mind that in order to participate in a payment plan, your customers will have to apply for financing with the consumer financing company you’ve chosen. Most times, your customers will need a decent credit rating to qualify for financing. It’s very important that you research the credit requirements of various consumer financing companies and determine whether your average target consumer would qualify for financing or not.
e. Do you have the needed manpower and expertise?
You should also consider if you have the ability to run an in-house costumer financing program. Consumer financing is just not about giving out products or expecting customers to pay as at when due, it needs a level of expertise and strength to achieve it. You need to consider this option extensively so you don’t jeopardize the success of your business.
f. Product eligibility
Before you can offer product financing, you have to be certain that your product is eligible for financing. Consumer financing companies don’t permit products or services of all types or costs to be paid in installments. For example, a financing company may put in place a minimum cost threshold.
Products or services below that threshold might not be eligible to be paid for in installments. This is why it’s important to check whether the types and costs of goods or services you are offering are eligible for the payment plans offered by the financing company you choose.
g. How the financing will be used
Some financing houses give customer financing that are restricted to certain products, services, or industries. Other financing programs may restrict customers from buying some of your products or services with their financing. You need to check which offering would suit you and your customers better.
h. If your customers would love the financing
Another factor to consider when offering customer financing for your small business is whether it makes sense for the products or services you offer. There is no point to offer a customer financing solution if your customers don’t like or use it.
Keeping in mind what your customers’ value is important in the process of picking your provider. Bear in mind that your customers would only use your financing if they find it reasonable and affordable.
Although it’s the financing company that is actually lending the money, your customers may have your business in mind every month when they pay the bill. To ensure your customers continue to see your business in a good light, finding the customer financing option with the best possible rates is essential.
i. Is the financing flexible for customers?
Businesses usually take out customer financing in a bid to keep people buying their products. While this can work for you, but it is advisable to offer financing options that are more flexible. Customer financing that can be offered in your store but used anywhere that credit cards are accepted makes it a much more valuable consumer financing tool. If your customer financing offer can provide a potential benefit for every purchase (not just yours), your salespeople will have an easier time promoting the product.
You have to note whether the customer financing you are being offered is easy to implement. Setting up a customer financing option should be painless for you the merchant; and in addition, applying for customer financing and enrolling in a payment plan should be painless for your customers.
The financing option should be scalable, should not require additional training and should not require you to spend money on new technology or software. This makes it more affordable to get up and running, and as your business grows, the minor point of sale and training requirements will make it much easier to scale.
Additionally, the customer financing should help you increase sales across all platforms, including at your brick and mortar store, ecommerce store, mobile, and any popup locations or conventions. So, the best customer financing for you should be the one that will also work no matter how or where your business grows.
In conclusion, if you are worried that today’s economic climate might affect your customers ability and willingness to make large purchases, you can consider offering them consumer financing. When you put in place an affordable, suitable and cost effective financing plan, you would see your sales making an increase. Whether you are a small brick and mortar shop or a multi-million-dollar e-commerce store, consumer financing programs are a great way to match the individual needs of your customers.