Government Contract Financing Guide: Funding Options for Federal Contractors | BidFinds
Understand financing options for government contractors. Learn about progress payments, performance-based payments, contract financing, and working capital solutions.
Quick Answer: How Do You Finance Government Contracts?
Government contractors have several financing options: Government-provided financing(progress payments, performance-based payments) available directly from the contract;SBA loans designed for small businesses; contract factoring(selling invoices to get immediate cash); and traditional bank financing(lines of credit, term loans). The best option depends on your contract type, cash flow needs, and business creditworthiness.
Financing Challenges for Contractors
Government contracting creates unique cash flow challenges that require strategic financial planning. Understanding these challenges helps you choose appropriate solutions.
Common Cash Flow Challenges
Payment Timing
Government payments typically take 30+ days after invoice submission. You must fund payroll, materials, and overhead before receiving payment.
Mobilization Costs
New contracts often require significant upfront investment in equipment, hiring, facilities, and materials before any billing can occur.
Growth Strain
Winning new contracts requires capital to scale operations. Fast growth can outpace cash flow, creating liquidity crises even in profitable companies.
Invoice Disputes
Rejected or delayed invoices disrupt cash flow. Government review processes can extend payment timelines significantly.
Why Traditional Banks Hesitate
- • Contract Complexity: Banks may not understand government contracting
- • Assignment of Claims: Legal restrictions on assigning government receivables
- • Limited Collateral: Service companies may lack traditional collateral
- • Irregular Revenue: Project-based income patterns seem risky to lenders
Government-Provided Financing
The government offers several contract financing mechanisms that provide cash before final delivery. These are the most cost-effective financing options when available.
1️⃣Progress Payments (FAR 32.5)
Periodic payments based on costs incurred during contract performance. The most common form of government contract financing.
Payment Rates
- • Large businesses: 80% of costs
- • Small businesses: 85% of costs
- • Small disadvantaged: 90% of costs
Requirements
- • Contract over $3 million
- • At least 4 months performance
- • Adequate accounting system
Note: Progress payments are reduced (liquidated) from delivery payments. You don't get 80%+ plus full delivery payment.
2️⃣Performance-Based Payments (FAR 32.10)
Payments tied to objective, measurable milestones or events. Increasingly preferred by the government over progress payments.
Key Characteristics
- • Based on milestone completion, not costs
- • Can be up to 90% of contract price
- • Milestones must be objective and verifiable
- • Payment upon government acceptance of milestone
Advantage: PBPs are not subject to the same administrative burden as cost-based progress payments.
3️⃣Commercial Interim Payments (FAR 32.2)
For commercial item contracts, the government may provide interim payments based on a percentage of the contract price.
- • Available for commercial item acquisitions
- • Typically delivery-based payments
- • Less administrative burden than progress payments
4️⃣Advance Payments (FAR 32.4)
Payments before any contract performance occurs. Rare and require special circumstances and approval.
Rarely Used: Advance payments require a finding that they're in the public interest and no other financing is available. Additional oversight and security requirements apply.
Commercial Financing Options
When government financing isn't available or sufficient, commercial financing fills the gap. Several options are tailored to government contractors.
Commercial Financing Overview
| Option | Speed | Cost | Best For |
|---|---|---|---|
| Contract Factoring | 1-3 days | 2-5% | Immediate cash needs |
| Line of Credit | 2-4 weeks | 6-12% | Ongoing working capital |
| SBA 7(a) Loan | 4-8 weeks | 7-10% | Equipment, expansion |
| Term Loan | 2-6 weeks | 8-15% | Major investments |
| Asset-Based Lending | 2-4 weeks | 10-18% | Companies with assets |
SBA Loan Programs
The Small Business Administration offers several loan programs that can help government contractors access capital at favorable terms.
SBA 7(a) Loan Program
The SBA's flagship program for small business lending. Government guarantees reduce lender risk, making approval easier.
Key Features
- • Up to $5 million
- • 10-25 year terms
- • Competitive interest rates
- • 75-85% SBA guarantee
Use For
- • Working capital
- • Equipment purchase
- • Facility acquisition
- • Contract mobilization
SBA Express Loan
Faster approval process with streamlined documentation.
- • Up to $500,000
- • 36-hour SBA turnaround
- • 50% SBA guarantee
- • Revolving line of credit option
SBA 504 Loan Program
For major fixed asset purchases like real estate and equipment.
- • Up to $5.5 million (some projects up to $16.5M)
- • 10-25 year fixed rates
- • Typically 10% down payment
- • Must create/retain jobs
SBA Surety Bond Guarantee
Not a loan, but helps contractors obtain bonding—often required for government contracts.
- • Guarantees bid, payment, and performance bonds
- • Bonds up to $10 million
- • For contractors who can't get bonding otherwise
Contract Factoring
Factoring involves selling your government invoices to a third party (factor) at a discount in exchange for immediate cash. It's one of the fastest financing options.
How Factoring Works
Submit Invoice
You submit your government invoice to the factor
Receive Advance
Factor advances 80-90% of invoice value within 1-3 days
Government Pays Factor
Government pays the factor directly when invoice is due
Receive Remainder
Factor sends you the remainder minus fees (typically 2-5%)
Assignment of Claims Act
Government receivables are protected by the Assignment of Claims Act, which restricts assignment to certain banks and lending institutions. Factors must meet these requirements:
- • Factor must be a bank, trust company, or other financing institution
- • Written notice must be provided to the contracting officer
- • Surety must consent if the contract is bonded
- • Factor cannot interfere with contract performance
Factoring Advantages
- • Fast access to cash (1-3 days)
- • No debt on balance sheet
- • Based on invoice, not creditworthiness
- • Grows with your revenue
Factoring Disadvantages
- • Higher cost than bank financing
- • Customer learns you're factoring
- • Must qualify each invoice
- • Ongoing fees vs. one-time loan cost
Lines of Credit
A line of credit provides flexible access to capital that you draw upon as needed and repay as cash flow allows.
Types of Lines of Credit
Unsecured Line of Credit
Based on business creditworthiness without specific collateral.
- • Requires strong credit history
- • Typically smaller amounts
- • Higher interest rates
Secured Line of Credit
Backed by assets such as receivables, equipment, or real estate.
- • Larger credit limits
- • Lower interest rates
- • Requires collateral documentation
Contract-Based Line
Secured specifically by government contract receivables.
- • Based on contract value
- • May require Assignment of Claims
- • Often offered by specialized lenders
What Lenders Look For
- • Contract Backlog: Firm contracts provide revenue visibility
- • Financial Statements: Profitability and cash flow history
- • Management Experience: Track record in government contracting
- • Customer Concentration: Diversity of contracts and agencies
- • Accounting System: Ability to track costs and invoice accurately
Choosing the Right Option
The best financing option depends on your specific situation. Consider these factors when making your decision.
Decision Factors
| If You Need... | Consider... |
|---|---|
| Immediate cash (1-3 days) | Contract Factoring |
| Ongoing working capital flexibility | Line of Credit |
| Equipment or facility purchase | SBA 7(a) or 504 Loan |
| Contract mobilization funding | Progress Payments + Line of Credit |
| Help getting bonded | SBA Surety Bond Program |
Cost Comparison Example
Scenario: $100,000 invoice, 45-day payment cycle
Common Mistakes to Avoid
Waiting Until Crisis
Establish financing relationships before you desperately need them. Lenders are more willing to help when you're not in crisis mode.
Ignoring Government Financing
Many contractors don't request progress payments or PBPs in their contracts. These are often the lowest-cost financing options available.
Poor Invoicing Practices
Delayed or incorrect invoices delay payments. Bill promptly and accurately to maintain healthy cash flow.
Over-Reliance on Factoring
Factoring is expensive for ongoing use. Transition to lower-cost options like lines of credit as your business matures.
Growing Too Fast
Winning contracts without the financial capacity to perform leads to failure. Ensure your financing supports your growth strategy.
Frequently Asked Questions
Can I factor government invoices?
Yes, but the factor must meet Assignment of Claims Act requirements. Work with factors experienced in government contracting who understand the process and have the proper legal standing to receive government payments.
How do I request progress payments in my contract?
Include progress payment provisions in your proposal. If not in the original contract, you can request a contract modification. The contract must meet threshold requirements ($3M+, 4+ month duration).
Will factoring affect my customer relationship?
The government will know you're factoring because they receive assignment notice and pay the factor directly. However, factoring is common and generally not viewed negatively—it's a normal business practice.
What if my SBA loan application is denied?
Ask for specific reasons and address them. Consider working with an SBA-preferred lender, improving your business plan, or using alternative financing while you strengthen your application.
How much working capital do I need for a new contract?
Plan for 60-90 days of operating costs before receiving first payment. Consider mobilization costs, payroll, materials, and overhead. Build a detailed cash flow projection for each new contract.
Next Steps
Proper financing enables growth and protects your business during cash flow fluctuations. Start building your financing foundation today.
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