Merchant Cash Advance
Modern finance has allowed business owners to get more and more creative when it comes to funding their businesses. In recent times, many traditional lenders have become risk averse due to the problems that occurred in the 2008 financial crisis. This means that business owners have to find new ways to borrow money if traditional lenders won’t offer them capital. This is especially true for business owners that don’t have long credit histories or have a poor lending history. If you haven’t established yourself as a credible borrower, you’re going to find it hard to get the capital you need in modern day America.
As mentioned previously, there are more and more creative ways to get funding for your business. If you’re finding it hard to get the funding you need for your operations, you may want to consider a merchant cash advance. Are most of your sales or transactions done via credit card? If so, you can take advantage of a merchant cash advance. This is one of the most expensive loan products out there — we highly recommend for you to check out other loan options before settling for a MCA.
This being said, a merchant cash advance is a credible source of capital if you have a large volume of credit card sales. This page will explore merchant cash advances and how they may be able to help you get the working capital you need to keep your business running. It will also provide some alternatives you may want to consider if you’re thinking you need emergency funding for your business.
Merchant Cash Advance Basics
So. you may be wondering – what exactly is a merchant cash advance? The answer to this question isn’t exactly simple. A merchant cash advance isn’t a real loan, instead it is actually a sale of future earnings. Basically, a merchant cash advance is an agreement between you and a company to forfeit a portion of your future credit card earnings in exchange for upfront capital. It’s a unique way to get money without needing a credit check – merchant cash advance companies just want to know that you have a decent volume of credit card sales from which they can withdraw what they’re owed.
In addition, you can get merchant cash advances much quicker than with traditional forms of funding. There are lenders who are approving and funding these advances in as little as one or two days. There’s very minimal paperwork and you can get cash almost instantly.
You can use your merchant cash advance to fund a variety of business functions. We’ve seen some of our clients use this opportunity to pay off debts, past due bills, employee payroll, or even for purchasing of raw materials. It’s up to you how you will use the money; the lender’s only concern is that you pay them back with a large interest rate, or factor rate — the proper term used for merchant cash advances.
Factor rates can range from 1.14 to 1.18, sometimes even higher. You simply multiply this figure to the loan amount to get the full amount you will be paying over the term period agreed upon. For example, a $10,000 merchant cash advance from a lender with a 1.15 factor rate brings you to $11,500. That’s still a good figure compared to those with higher factor rates. However, once you convert this to the annual percentage rate (APR), you’ll be surprised to see that the actual interest rate can range from 15% to as high as three-digit rates! This is especially true if you manage to pay the loan back quickly.
Payments are made on a daily basis using your credit card transactions. If business is good, you probably won’t even feel it being deducted from your revenue. Before you know it, the full loan has already been paid. However, your cash flow will be seriously impacted no matter how good business is, as a portion will be given directly to your merchant cash advance company.
The good thing about this is that in order to catch up with daily payments and avoid even heftier late payment fees, you can arrange to pay lower daily amounts on slow weeks or months. In fact, it is normally withdrawn at the rate that you’re earning money – the less money you’re earning, the less you have to pay. It’s a percentage of revenue.
You can pay back a merchant cash advance in as little as four. On the other hand, if business is slow, and you wish to lower down your daily payments, you can have your loan extended to an 18-month payment period. The average timeframe most clients have for this type of loan product lasts from eight to nine months.
Why Does a Merchant Cash Advance Exist?
So, if a merchant cash advance is so expensive, why does it still exist? Why are many small business owners still taking advantage of merchant cash advances? The answer is pretty simple — you qualify even if you’re a new business. Bad credit is also accepted.
You need to have an operating business for over five months to qualify. Lenders will still check your credit score so you have to at least have over a 400 rating – which is still very low. Over $75,000 annual revenue is also preferred.
Although the time to funding takes about a week with factor fees ranging from 1.14 to 1.18, plenty of entrepreneurs are using merchant cash advances simply because the turnaround time to receive a cash advance is still quick. You don’t need collateral and payments are done daily through a merchant account. You can borrow anything from $2,500 to $250,000 – although this will depend on your revenue streams.
Are You Qualified to Get a Merchant Cash Advance?
If you are currently worried about not having enough cash for your business and you need money quick, you will surely be tempted to get a merchant cash advance, despite this product being more expensive than others. After all, you will not be required to present collateral and there’s no need for you to prove that your business is established and stable. In fact, lower credit ratings are more than welcome to apply. The only downside is that you have to pay for the price. Cash without collateral and without a good credit record to back you up will cost you extra cash for sure.
Since merchant cash advance lenders are getting payments from your daily credit card transactions, you can’t really run away from making payments – this is why they don’t require you to secure the loan.
Most often, this type of loan product is used by store or restaurant owners who receive a large portion of their payments from customers using credit cards.
Advantages to Merchant Cash Advances
This page may sometimes sound like a precautionary tale against merchant cash advances, but you’ll find that there are many advantages to getting merchant cash advances if you need funding. This part of the page is dedicated to providing you with a clear summary of the advantages and disadvantages associated with merchant cash advances. A full list of the benefits is provided below:
- Accessible – As mentioned previously, merchant cash advances are extremely accessible, hence why they are so popular with those with limited credit histories. All you have to do is prove that you have volume in sales so that your merchant cash advance company knows you will generate enough credit card revenue to pay them back.
- Pay at Your Own Pace – One of the major benefits of merchant cash advances is that it allows you to pay at your own pace. Your repayments will reflect a percentage of your sales and therefore if your sales are slow, so are your payments. This allows you to pay back at the rate that you are making money – an awesome benefit that isn’t afforded in most forms of funding.
- Quick – Another major benefit of merchant cash advances is how quickly you can get them. Many merchant cash advance companies will be able to get you money in one or two days. This is down to the fact that there are no credit checks required and the process is very straightforward.
- No Debt – The last major benefit to merchant cash advances is that it doesn’t add any debt to your balance sheet. It is one of the few forms of funding, aside from selling equity, that allows you to avoid having additional debt on your balance sheet. For this reason, it doesn’t put your creditworthiness in jeopardy.
- Preserve Equity – If you don’t have any way to get capital, you may think that you have to sell equity in your company. A merchant cash advance allows you to avoid this entirely. Selling equity means that you will forfeit future earnings in your company. In addition, you will lose part of the control of your business. For this reason, many merchant cash advance clients believe the cost of merchant cash advance far outweighs the cost of selling equity to investors.
Disadvantages to Merchant Cash Advances
While there are a few benefits to merchant cash advances, there are also plenty of disadvantages. It is important that you consider all these prior to attaining a merchant cash advance. A full list of drawbacks is provided below:
- Expensive – This is the obvious disadvantage that should be considered, merchant cash advances are in place to allow easy access at a high cost. You will most likely pay more for a merchant cash advance than any other form of funding. This is the reason it is a last resort for many companies when it comes to attaining capital.
- Limited Choice – There is limited choice when it comes to merchant cash advances, this makes it an expensive form of capital, and it also means that you won’t get to choose which customer service experience you will like. You will most likely need to go with your credit card processing company or their partner.
- Unregulated – The industry is very unregulated as it is not technically a loan. Instead, you are selling the rights to a portion of your future earnings. This may sound like a good thing, but really it means that you are more open to unscrupulous companies.
- Doesn’t Help Build Credit – While it may seem that not having an impact on your credit score is a good thing, it can also be a bad thing. As a company that is just starting out or that has a bad credit history, you should be focusing on ways to build up your credit score. Not building up your credit score will mean that it is harder for you to attain finance in the future. You need to be using a loan rather than a sale to help establish your credit history.
- Restricts Cash Flow – If you’re applying for a merchant cash advance, one of the primary reasons is probably because you’re low on cash. If not, you should have no reason to apply for a form of funding that is so expensive. The problem is that because your merchant cash flow takes a percentage of your earnings, your cash flow will continue to be restricted as you pay it back. This can create problems for your business, as you probably already have an established cash flow problem. This is especially true if your business primarily takes credit card payments over cash.
If you think that you need funding but you don’t have an established credit history, you may be finding yourself tempted to get a merchant cash advance. But if you feel like the cost of a merchant cash advance is too high for you to handle, you may want to try and find another form of finance with low eligibility requirements. There are two forms of funding that work quite similarly to merchant cash advances in that they don’t have high credit score requirements and they rely on your earnings to get you the money you need. These two forms of funding are factoring and invoice financing, they are discussed in detail below:
Invoice financing is the process of borrowing against an invoice you have that is yet to be paid. For example, you’re currently fulfilling a large order for computers, but you need capital straight away. Chances are your client will not pay the invoice early – they may even pay it late, as many businesses do. This can seriously damage your cash flow and result in you not having the capital you need to fund normal operations. A lender will allow you to borrow the money that the client owes you, and then charge an interest rate on the money they’ve lent you. Because you are borrowing against an invoice, your required credit score is much lower than with a traditional business loan. There is more information on this form of finance in the invoice loan section of our website – check it out if you think this may be an appropriate option for you!
The process of factoring is also related to the invoices that your business has. Like merchant cash advances, factoring isn’t a form of finance. Instead of borrowing against an invoice, you sell the rights to collect the invoice to a factoring company. They give you between 80-90% of your invoice total upfront and then more once they have collected the invoice. Factoring is normally slightly more expensive than invoice financing, but it doesn’t require a credit check. In addition, it doesn’t count as debt on your balance sheet which means that you don’t risk damaging your credit worthiness.
The one bad thing about factoring is that your client will be notified that you have factored their invoice – this is because the factoring company will be collecting the invoice directly from your client. While this may not seem like a big deal, some clients might think that you are struggling financially and be apprehensive to work with you again. It is a good idea to talk to your client about the situation prior to handing their invoice over for factoring, this is especially true if the factoring company wants to run a credit check on your client to see if they will be able to pay the invoice.
Watch Out for Predatory Companies
One thing that you must be very wary of when it comes to merchant cash advances is predatory companies. Since 2008, the financial industry has been increasingly regulated, which makes lending money a fairly safe industry. But with merchant cash advances, you’re not actually borrowing money, you’re selling the right to a portion of your future earnings. This means that you’re not actually protected by traditional lending laws. This has created a range of problems, including a great deal of predatory companies acting in the space.
There have been a range of court cases which have attempted to get merchant cash advances to begin obeying traditional usury laws, but the majority of them have been unsuccessful – this means that you are still unprotected if you’re entering this market. This isn’t to say the industry is entirely unregulated, the large merchant cash advance companies in the space have great reputations for being ethical. But it is super important that you do research into any company that you are considering working with. Not doing so is a massive risk that no responsible business owner should be willing to take.
Who Offers Merchant Cash Advances
If you’ve gone to your bank’s website you’ve probably notices that they don’t offer merchant cash advances. In fact, most major financial institutions don’t offer them at all. There are a few online lenders that act in the space, but the merchant cash advance industry is extremely niche. The reason behind this is that you have to have access to the card processing systems to be able to ensure that you are being paid at the rate that the borrower is earning. For this reason, most merchant cash advance companies are actually the card processing companies themselves, or a company with a partnership with one of these card processing companies.
Many of the major credit card processing companies do offer merchant cash advances. If not, they will most likely have a partner that they can direct you to. If you are considering getting a merchant cash advance, one of the first ports of call should be asking your credit card processing company if they offer the service. The downside to this is that you don’t have many options – you pretty much have to work with card processing company or their partners. The only other choice you have is to switch card processing companies, but this may not be possible if you’re locked into a contract or enjoy the rates that you’re currently provided. This is one of the reasons that merchant cash advances can be such an expensive financial product.
Important Tips to Remember
Be prepared to spend – when you’re getting a merchant cash advance, you will be spending a whole lot of money to pay it back even if you think you landed a good deal. Again, this is the most expensive loan type, so we always highly recommend our clients check out other products prior to settling for an MCA. However, if you really need cash badly and you truly believe that you have enough credit card transactions coming through to quickly pay back the lender, this might be an okay idea. You need to ensure that you will be able to operate on the reduced cash flow that you will be receiving once you begin paying back the loan. You should also ask merchant cash advance companies if there are any hidden fees.
If you don’t fully understand the financial aspects of your business, consult with an accountant. If you don’t have a company accountant, we are more than happy to walk you through what you need to know about merchant cash advances to ensure you’re making a good decision. Make sure you research all types of funding before making a decision.
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