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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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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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True sale of receivables

In this note we examine the legal characteristics of a true sale, the risk of recharacterisation and explain why true sale is an important concept.

Factoring and invoice discounting are both examples of financing techniques that involve the sale of receivables (often at a discount) by a seller to a financier, rather than the provision of a loan secured against the receivables.

Where the financing is structured as a sale, the parties will want the monies advanced by the financier to be characterised as a purchase price and the assignment of the receivables by the seller to be characterised as a sale.

Where a purported sale of receivables fails the “true sale” test, there is a risk that the payment of the purchase price will be recharacterised by the courts on the insolvency of the seller as a loan and the purported sale will be recharacterised as a security assignment.  If the seller is incorporated in a jurisdiction where security assignments must be registered, that recharacterisation may lead to the security being void against the seller’s liquidator as a security for want of registration.  The financier would then be left as an unsecured creditor of the seller.

Legal characteristics

Unfortunately, there is no one legal test by which it is possible to determine conclusively whether a transaction amounts to a true sale of receivables, rather than a secured loan.

In the case of Re George Inglefield Ltd [1933] Ch. 1, the Court of Appeal identified the following essential differences between a sale and a secured loan:

• In a sale transaction, the seller is not entitled to get back the asset it has sold by returning the purchase price to the purchaser.  A loan secured by a mortgage or charge of the asset would include this right.
• If a mortgagee sells the secured property for an amount in excess of the outstanding balance of the loan (together with interest and costs), he has to account to the mortgagor for any surplus.  In a sale transaction, however, if the purchaser subsequently sells the asset for a profit, he does not have to account to the seller for the profit. 
• If a mortgagee sells the secured property for an amount that is insufficient to discharge the outstanding loan amount, the mortgagee is entitled to recover the balance from the mortgagor.  In a sale transaction, however, the purchaser has no right to recover any such loss from the seller.

Broadly speaking, the courts will look for evidence that the risks and rewards of ownership of the receivables have transferred from the seller to the financier.

Economic substance

For a receivables purchase transaction, the main risk of ownership is non-payment of the receivables by the debtor.  In determining to what extent the risks and rewards of ownership have transferred from the seller to the financier, the economic substance of a transaction will usually be an important factor considered by the courts.

Where the financier has a right to recourse (ie sell back) the receivable to the seller in the event of non-payment by the debtor, the courts may take the view that the seller has retained the risks of ownership, such that the economic substance of the transaction is that of a secured loan, rather than a true sale.

The natural tendency of banks is to include as many repurchase events as possible in the receivables purchase agreement (RPA), as this increases recourse to the seller and is perceived to be less risky for the financier.  However, from a true sale perspective, this approach should be resisted, because the more extensive the list of recourse events the greater the risk is of recharacterisation.

This does not mean that the financier cannot set any limits on its exposure to a debtor and it is common to see financiers requiring a right of recourse where, for example, non-payment of a receivable is due to a dispute arising between the buyer and the seller, or due to an alleged breach by the seller of its obligations under the underlying sales contract.  The financier is providing working capital finance to the seller, but this does not oblige the financier to take on wider risks associated with the business relationship between the buyer and the seller.

As a general rule, a transaction is more likely to be characterised as a true sale if the financier has no, or limited, rights of recourse to the seller.  This is especially true if recourse is limited to matters other than a payment default and those which are within the seller’s control.

Objective intent

On the basis of the principles set out in Re George Inglefield, Ltd , as considered and applied by the Court of Appeal in Welsh Development Agency v. Export Finance Co., Ltd [1992] BCLC 148, the threshold for recharacterisation is a high one and a transaction structured as a sale of receivables will generally be upheld as such unless the transaction is in substance a mortgage or charge of receivables and not a sale, or a sham.

If one or more provisions of the RPA are inconsistent with a sale, then the court will look to the provisions of the RPA as a whole to determine the substance of the transaction and the nature of the legal relationship created between the parties.

The courts will only find a transaction to be a sham where the terms of the RPA do not represent the true intentions of the seller and the financier.

Off-balance sheet financing

True sale is not only a legal issue, but will have important implications for determining whether or not a transaction can be classified as “off-balance sheet” financing under applicable accounting rules.

“Off-balance sheet” in this context means that the seller is able to remove the receivables it has sold from its balance sheet and can show the payment it receives from the financier as cash.  The attraction for the seller of this is an improvement in its liquidity while avoiding the need to report additional liabilities on its balance sheet.

The correct presentation in the seller’s accounts of such a transaction is made by the seller’s accountant, rather than the financier or its lawyers.  However, accountants will often require a legal opinion confirming that a true sale of the receivables has been achieved from a legal perspective before a transaction can be classified as off-balance sheet.

Health warning

This note is intended for general information only and provides a simplified overview of English law.  It should not be used as a substitute for taking legal advice.  The law is summarised as of 19 April 2016.

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This document (and any information accessed through links in this document) is provided for information purposes only and does not constitute legal advice. Professional legal advice should be obtained before taking or refraining from any action as a result of the contents of this document.

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Home > Accounts Receivable > Assignment of Accounts Receivable Journal Entries

Assignment of Accounts Receivable Journal Entries

The assignment of accounts receivable journal entries below act as a quick reference, and set out the most commonly encountered situations when dealing with the double entry posting of accounts receivable assignment.

The assignment of accounts receivable journal entries are based on the following information:

• Accounts receivable 50,000 on 45 days terms
• Assignment fee of 1% (500)
• Initial advance of 80% (40,000)
• Cash received from customers 6,000
• Interest on advances at 9%, outstanding on average for 40 days (40,000 x 9% x 40 / 365 = 395)

About the Author

Chartered accountant Michael Brown is the founder and CEO of Double Entry Bookkeeping. He has worked as an accountant and consultant for more than 25 years and has built financial models for all types of industries. He has been the CFO or controller of both small and medium sized companies and has run small businesses of his own. He has been a manager and an auditor with Deloitte, a big 4 accountancy firm, and holds a degree from Loughborough University.

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Assignment of Receivables – The Achilles’ Heel of Invoice Financing

Receivables are a key tool in trade finance particularly with the use of invoice financing. By transferring the rights to a receivable such as an invoice, SMEs are able to get much needed working capital, getting paid by funders today, what is owed by their buyers in the future. Whether done on a recourse or non-recourse basis, assignments of the receivables are a central feature of invoice finance structures as they give funders critical rights against buyer-debtors. But without sufficient care on how assignments are obtained, this simple document can be the Achilles’ heel of an invoice financing program.

Risks in Invoice Financing

Invoice financing transforms a supplier-buyer relationship into a multi-faceted, funder-buyer as well as funder-supplier dynamic. The risks to be considered include:

• Receivable title risk: the risk that the supplier may have already assigned or pledged the receivable to another funder;
• Receivable transfer risk: the risk that applicable law may not allow the funder to take good title to the receivable, or otherwise subordinate the lender’s rights to third party claims;
• Dispute risk: the risk that the buyer may claim the supplier failed to deliver goods in accordance with the contract;
• Discount or dilution risk: the risk that the buyer will not pay the full amount of the invoice for reasons other than the supplier’s performance of the contract e.g., relying on set-off rights or discounting mechanisms in umbrella arrangements unknown to the funder;
• Payment delay risk: the risk that the buyer will not pay on time;
• Payment direction risk: the risk that the buyer will make the payment to the supplier or some other party instead of the funder; and
• Debtor credit risk: the risk that the buyer-debtor does not pay at all.

Assignments – why are they important.

A robust invoice financing program using assignments should narrow the risks above but only if careful attention is paid to how they are done. When assigning an invoice, a notice of the assignment serves both legal and practical functions. Legally, a notice of assignment is one of the requirements to create a legal assignment, which in turn allows the assignee-funder to enforce rights in its own name. Without notice, the assignment is treated as an equitable assignment which may provide challenges for a funder to enforce rights through an uncooperative supplier. Practically, a notice also serves to “flush out” some common excuses a buyer may deploy for non-payment relating to setting-off sums from other transactions, side arrangements on discounting or disputes relating to the invoice itself.

With no visibility on whether receivables had been previously assigned, a notice of an assignment serves as an important basic risk mitigant towards double financing. In addition, in cases of multiple assignments done by the supplier, a notice serves to give priority to a funder against subsequent funders – this can make all the difference if multiple financing of the same invoice is discovered later.

Forged/ Multiple Assignments

A notice of assignment as acknowledged by the buyer is only half the battle. In a pursuit for liquidity, unscrupulous traders may fabricate contracts, invoices and by extension assignment acknowledgements. These illegitimate acts may sometimes never come to light as a supplier may be able to recycle liquidity in time to repay its funders. But other times, forged acknowledgments or multiple financing are only discovered when the funder seeks to enforce against the buyer, who may be located in a difficult jurisdiction to get effective legal recourse. In the process, startling discoveries can be made:

• The buyer alleges the contract, invoice and acknowledgment of assignments have been forged;
• The buyer alleges that goods were never received notwithstanding invoicing and acknowledgment of the assignment of the invoice;
• The buyer is directed by the supplier to pay the supplier directly or a third party notwithstanding the assignment notice;
• The buyer convinces the supplier that the assignment has been extinguished; or
• The same invoice has been assigned to multiple funders.

The Achilles’ heel with assignments in invoice financing programs is that there is little interface between the funder and the buyer – the supplier plays a central role in routing documents to its funder. Funders have little visibility or capacity to verify every document and even where verification is done, an unscrupulous supplier may still impersonate their buyers with fictitious email accounts. The difficulty in detecting invoice fraud cannot be overstated and will continue to challenge the trade finance market. The Association of Banks in Singapore have introduced a Code of Best Practices for commodities financing which includes recommendations to get some reference of an assigned invoice into the invoice document itself and for lenders to obtain acknowledgment of assignments directly from the buyer. But without a registry for invoices, it would be difficult for funders to eradicate multiple assignments of the same receivable. Singapore is making plans to change that – so do watch this space.

Assignments as security or as outright transfer – why does it matter?

A receivable can be assigned as security for performance of a supplier’s obligation to repay a loan. Alternatively, an assigned receivable can operate as an outright transfer to a funder. The distinction is critical as understanding which party has ownership in the receivable can have important accounting (e.g., off balance sheet treatment) and legal consequences (e.g., the right to sue under the invoice). The distinction is even more acute if the supplier goes into liquidation – if deemed a security, a receivable would be treated as part of the insolvent supplier’s assets and if the supplier fails to register its assignment as a charge, then it may be void against the liquidator with the consequence that the funder is left unsecured for its debt. Receivables Purchase Agreements, in trying to have the best of both worlds to protect the funder for every loss and contingency can often inadvertently run the risk of being reclassified as a loan rather than a “true sale”.

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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
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• 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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• Sales Returns

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• Security Interests

United Nations Convention on the Assignment of Receivables in International Trade (New York, 2001)

Date of adoption: 12 December 2001

The purpose of the Convention is to promote the movement of goods and services across national borders by facilitating increased access to lower-cost credit.

Why is it relevant?

The transactions covered by the Convention (e.g. asset-based lending, factoring, forfaiting, securitization, project financing) are fundamental for the financing of international trade. Yet uncertainty as to the content and choice of legal regime applicable to the assignment of receivables constitutes an obstacle to international trade. As a result, an assignment of future receivables or a bulk assignment of receivables that are not identified individually may be ineffective. In addition, an assignment that is effective according to the law under which it was concluded, may not be enforceable as against the debtor in another country or be subordinated to the rights of competing claimants in another country. Moreover, the law applicable to conflicts of priority among competing claimants may be difficult to determine. This means that either credit is not available on the basis of receivables (e.g. the claim for the payment of the purchase price in a contract for the sale of goods) or credit is available but only to those that may be able to afford its cost; and lack of sufficient access to credit or high cost of credit is a disadvantage in particular for small- and medium-size enterprises.

Key provisions

The Convention removes legal obstacles to receivables financing transactions, inter alia, by: (a) validating assignments of future receivables and bulk assignments, and by partially invalidating contractual limitations to the assignment of receivables); (b) enhancing certainty with respect to a number of issues, such as the effectiveness of an assignment as between the assignor and the assignee and as against the debtor; (c) clarifying the law applicable to key issues, such as the priority between competing claims; and (d) providing a substantive law regime governing priority between competing claims that States may adopt on an optional basis.

Relation to private international law and existing domestic law

The Convention applies only to international assignments of receivables and to the assignment of international receivables (with the exception of "financial" receivables). However, the Convention may affect a domestic assignment of a domestic receivable if: (a) it is in conflict with an international assignment of the same receivable; or (b) if it is one in a series of subsequent assignments, one of which, falls within the scope of the Convention. For the debtor, related provisions of the Convention to apply, at the time of the conclusion of the contract from which the assigned receivables arise, the debtor has to be located in a Contracting State or the law governing the assigned receivables has to be the law of a Contracting State.

Additional information

The Convention contains an optional part with applicable law rules and another optional part with substantive rules dealing with the third-party effectiveness and priority of an assignment of receivables.

The Convention is accompanied by an explanatory note. There is also an-article-by-article commentary on the draft Convention that was before the Commission at its 34 th session in 2001.

Additional Resources

• Text - Explanatory note
• UNCITRAL Legislative Guide on Secured Transactions: Supplement on Security Rights in Intellectual Property (2010)
• UNCITRAL Legislative Guide on Secured Transactions (2007)
• United Nations Convention on Contracts for the International Sale of Goods (Vienna, 1980)
• General Assembly resolution 56/81

Travaux préparatoires

• Endorsement by American Bar Association (ABA)
• Endorsement by International Chamber of Commerce (ICC)
• Endorsement by International Factors Group (IFG)
• A/48/17(SUPP)
• A/CN.9/378/Add.3
• A/49/17(SUPP)
• A/50/17(SUPP)
• A/51/17(SUPP)
• A/52/17(SUPP)
• A/53/17(SUPP)
• A/54/17(SUPP)
• A/55/17(SUPP)
• A/CN.9/472/Add.1
• A/CN.9/472/Add.2
• A/CN.9/472/Add.3
• A/CN.9/472/Add.4
• A/CN.9/472/Add.5
• A/CN.9/489/Add.1
• A/CN.9/490/Add.1
• A/CN.9/490/Add.2
• A/CN.9/490/Add.3
• A/CN.9/490/Add.4
• A.CN.9/490/Add.5
• A/CN.9/491/Add.1
• A/CN.9/WG.II/WP.87
• A/CN.9/WG.II/WP.89
• A/CN.9/WG.II/WP.93
• A/CN.9/WG.II/WP.96
• A/CN.9/WG.II/WP.98
• A/CN.9/WG.II/WP.102
• A/CN.9/WG.II/WP.104
• A/CN.9/WG.II/WP.105
• A/CN.9/WG.II/WP.106

Restricting your suppliers from assigning their receivables? Think again

If you contract with a supplier of goods or services who is an SME, you may want to re-evaluate the validity of certain contract terms in the light of the recent Business Contract Terms (Assignment of Receivables) Regulations 2018 (the " Regulations "). The Regulations are expected to facilitate SMEs' access to working capital through invoice financing (such as discounting or factoring) and thus reduce the dependency on customers' payment. To achieve such goal, these Regulations will invalidate clauses which, in effect, prohibit or restrict an eligible supplier from assigning their receivables (i.e. the right to payment) under commercial contracts. A key point to note is that the Regulations will not nullify the contract as a whole or the entire invalid clause, but only to the extent the Regulations are applicable to receivables.

Contractual terms entered into (including via novation) on or after 31 December 2018 will be subject to the Regulations, save for the specified exceptions. For example, the Regulations do not apply if the person to whom the receivable is owed is a large enterprise or a special purpose vehicle. Various types of contracts are also excluded, such as contracts relating to financial services, interests in land or sale of shares, etc.

These Regulations may lead to the need for certain changes to the drafting and implementation of relevant commercial contracts:

• No assignment. An eligible supplier will be able to assign their receivables to a debt purchaser without having to seek their customers' prior consent. This means a blanket no-assignment clause (such as " No party may assign, subcontract or encumber any right or obligation under this agreement, in whole or in part, without the other’s prior written consent" ) will no longer work for receivables. We recommend that any no assignment clause should be stated to be without prejudice to the Regulations, and will have no effect to the extent that any term of the agreement prohibits or imposes a condition, or other restriction, on the assignment of a receivable arising under the agreement.
• Confidentiality obligation can still be imposed on suppliers, save for any "essential information" that enables the identification of "receivables", as listed in the Regulations. This means information that enables the identification of "receivables" may be disclosed by a supplier to a third party purchaser for the purpose of receivables assignment or transfer without constituting a breach of confidentiality.
• Set-off. The Explanatory Note to the Regulations clarifies that a contractual right to set-off is not considered as a restriction on transfer of receivables for the purpose of the Regulations. Although the right to set-off is maintained, you may want to consider practical impact of the Regulations on the mechanism to exercise the right to set-off, such as how your cash flow will be affected if you are no longer able to consolidate future transactions to set-off against one original invoice that has already been assigned to a third party.

If you would like to have a further discussion about these Regulations and their impact on supply of goods and services contracts, please contact Brian Farrell .

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