Factoring is the sale of accounts receivables at a discount to a third party called the factor with recourse (i.e., a recourse factoring) or without recourse (i.e., a non-recourse factoring). This transaction involves three parties: the seller (of receivables/ debt), the factor, and the customer (originally owing money to the seller). By implication, an institution factors or assigns its trade receivables, which are invoiced in whole or only involving certain types thereof, on a frequent basis to a factor. The factor is a party that will assume the role of the creditor- institution with regards to the debts it incurs and hence is obliged to pay its off to the creditor immediately on the spot or at maturity, regardless of whether these debts were ultimately recovered or not, and in return for a pre-agreed amount of money.

Factoring is a kind of assignment (assignment of debt, hawalat al-dain) whereby the ownership of (i.e., right in) trade receivable is transferred to the factor. The factor becomes the new creditor to the debtor. The price at which the receivables are purchased has to be paid to the original creditor (the supplier), immediately or at maturity, for a pre-agreed amount of money. The price depends on the time of payment: if earlier than maturity date, it is discounted, other wise is it in full.

Factoring can be permissible in one situation where the full value of receivable is paid on maturity or on a pre-agreed date. As per Shari’ah, it is not permissible to enter into a contract of purchasing the invoices on a discount (factoring), unless the contract involves purchase of a commodity or a usufruct or a service whose delivery is certain and will take place as per the contractual terms and conditions.