A credit memo (or credit note) is a document a seller issues to lower the amount a customer owes. It is the opposite of an invoice: instead of adding to the balance, it subtracts from it.
How it works in factoring
Credit memos are common and legitimate. Sellers issue them for returned goods, damaged shipments, pricing corrections, volume rebates and negotiated allowances. In factoring, though, they need careful handling because they reduce the value of invoices the factor has already purchased.
Most factoring agreements require the seller to:
- Notify the factor before or promptly after issuing a credit memo on a factored invoice
- Get the factor's consent for credits above a certain amount
- Reimburse the factor, usually from reserves, for the reduction in value
If a seller issues credits without telling the factor, the customer may short-pay invoices, leaving the factor to discover the gap later. That can be treated as a breach of the agreement.
Illustrative example: A $15,000 factored invoice is reduced by a $1,000 credit for damaged items. The customer pays $14,000. The factor deducts the $1,000 shortfall from the seller's reserve.
What to check
- Your agreement's notice and approval rules for credits
- Whether credits on unfactored invoices to the same customer can still affect the factor, for example if the customer nets them against factored balances
- How your accounting system links credits to specific invoices
Clear, timely credit reporting keeps reserve releases predictable and avoids disputes with the factor.