First, let’s define factoring. Factoring is the act of accepting credit card payments on behalf of another business/organization. For example – let’s say you own a bakery, accepting payments for cookies, cakes, etc. Let’s also pretend that you start a side-business selling car parts on the internet. If you were to start taking payments for car part sales through your bakery account, that’d be considered factoring.
But why is it bad? Read on…
Let’s use our above example. Your bakery accepted payments for some car-parts sales. What happens if your car-part customer disputes the sale? They’ll check their bank account when you charge them for car parts, and they’ll see “XYZ Bakery” on their statement. They won’t recognize that business! They’ll likely call their bank, and dispute the sale. And guess what – they’ll win. They didn’t contract with a bakery! They bought car-parts. The confusion will almost always go in favor of the cardholder, and your business just lost a sale. Factoring makes it impossible to truly trace a transaction back to the actual business that processed it.
Factoring can hide illegal activities
If you’re taking payments for transactions your processor didn’t approve you for… how does your bank know those are legal sales? What if you started taking payments for drugs, or other illegal activities? Your bank would be processing illegal payments! That’s a spot no one wants to be in – and as such, you’re only allowed to process sales for which you were specifically approved.
With factoring, there’s a big potential for fraud. If you start accepting payments on behalf of another organization, you inherently accept risk for their sales. What if that other organization acts deceptively? What if they intentionally mislead their customers? What if they promise one thing, and deliver another? You’re on the hook for those sales if you process them. Factoring really opens up the door for an organization to take advantage of another unsuspecting merchant. It also allows for business collusion, which can result in costly fraud.