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What Are Cash Advances? Types and How They Work

What Are Cash Advances? Types & How They Work; What are cash advances? In simple terms, a cash advance means that you’re being loaned cash upfront, based on an expectation that you’ll soon be getting money from another source so that you’ll be able to pay back the loan.
Ashley Kilroy
Ashley KilroyUpdated May 1, 2023
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Whether you personally need fast cash or you’re the owner of a small business that could use some quick funding, cash advances are often tempting. However, before you run to the nearest ATM or lender, you should be sure you understand what you’re getting into. Read on to learn more about what cash advances are, how they work, the most common types, and how to decide if a cash advance is right for you. We'll also discuss some alternative options if you decide against getting a cash advance. 

What Are Cash Advances?

A cash advance is a small, short-term loan that provides upfront cash based on an expectation that you’ll have the means to pay back the loan. They're often convenient in the short term, but all can be costly in fees and rates over time.Answering the question “what are cash advances?” more precisely is tricky since they can take different forms. A few common options are credit card cash advances, payday loans, and those for small businesses. All of these work in slightly different ways.

How Do Cash Advances Work?

In broad terms, any time you borrow against yourself (or your business) is considered a cash advance. A credit card cash advance is money withdrawn against your credit card limit. A payday loan gives you a short-term loan of upfront money against your coming paycheck. Small businesses may see terms like business cash advance loans, merchant cash advance loans, or credit card processing loans. In all of these, a lender loans your business a lump sum based on your anticipated future sales. Cash advances don't tend to involve collateral, cosigners, or anything else that would assure a lender that you'll be able to repay the money. Because of this, fees and interest can be very high to ensure the lender isn't taking too big of a risk.In addition to the higher fees and interest rates, cash advance lenders often don't allow grace periods (meaning you owe interest starting the day you make your withdrawal).Make sure you consider these factors when deciding whether to pursue a cash advance vs a different type of small business loan.

Common Cash Advance Fees

Cash advance interest rates and fees may be higher than those for typical loans such as personal loans or credit cards. A few cash advance costs and fees to be aware of are:
  • Interest Cash advance interest rates are often higher than personal loans and interest rates for other business loans, even if you're getting a cash advance through a pre-existing credit card. 
  • Annual Percentage Rate (APR) This is often used interchangeably with "interest rate," but APR means the total cost of your interest and fees over a year. The APR for a credit card cash advance can run over 24%. 
  • Cash advance fee Your lender may charge a fee for taking out a cash advance, even if cash advances were an advertised feature.
  • Withdrawal fee If you're getting your cash advance via an app, bank, or ATM, you may be charged a fee related to taking out the advance. This could be in addition to other fees — so, a cash advance fee and a withdrawal fee may both be charged.

Common Uses of Cash Advances

Many people, including business owners, have found themselves short on cash from time to time. If you find yourself in this situation in your daily life, taking out a credit card advance could be a solution if you’ll be able to repay the funds quickly. You could also choose to take out a payday loan, planning to pay it back when you get your next paycheck. These funds could be useful for any expense you hadn’t planned for and can't afford without them.A small business owner may also use cash advances for situations requiring quick access to funds. That money can also cover short-term expenses and smooth out uneven cash flow. Some common uses might include: 
  • Unexpected costs It can take a while to apply for certain loans and even longer to get approved. A cash advance could let a small business owner deal with emergencies immediately, like an unforeseen equipment repair, a fine, or flood damage.
  • Expedite growth Small businesses might use a cash advance to purchase new equipment or materials and then repay that borrowed money with revenue generated by an increase in sales.
  • Inconsistent revenue When your business is experiencing a low-revenue period or lost work, cash advances can help cover ongoing costs.

Common Types of Cash Advances

Cash advances come in various formats. The three types you may encounter are credit card cash advances, payday loans, and merchant or business cash advances.

Credit Card Cash Advances

A credit card cash advance is a cash loan typically issued to an individual through their credit card issuer. Credit card advances are designed to be helpful when you have an expense you can't ignore but can't be paid by your credit card — for instance, some service providers and landlords don't accept credit cards.If you have a credit card that offers cash advances, you can typically visit an ATM, enter your PIN, and withdraw your selected amount, up to the limit your card allows for cash advances. Alternatively, you could request a cash advance check directly from your credit card company.Bear in mind that your credit limit and cash advance limit may not be the same. For instance, if your overall credit limit is $10,000, you probably can't withdraw $10,000 as cash. In fact, your cash advance limit could only be a couple hundred dollars.

Pros and Cons of Credit Card Cash Advances

Credit card advances have some advantages but also significant drawbacks. Pros of Credit Card Advances:
  • Convenience Unlike other financing options, which often require applications and approval time, this is a speedy way to access cash. All you have to do is visit a local ATM.
  • Available in emergencies If you don’t have funds in your bank account and a needed service won't accept a credit card, this may be the only way to pay for a sudden expense.
Cons of Credit Card Advances:
  • Cost Credit card advances often require a fee and a higher interest rate. Fees generally range from 2% to 5% of the amount, though it may be a flat rate. Interest rates for advances may also be significantly higher than your card’s usual rate.
  • No grace period You will likely be charged interest on your cash advances upon withdrawing the money.
  • Credit score implications Credit card cash advances can hurt your personal credit because high credit utilization can negatively impact your score.

Payday Loans

Essentially, payday loans (also known as cash advance loans) are short-term loans that let you borrow against your future income. Lenders offer a quick application process and approval turnaround. Loan amounts usually range between $500 and $1,000, but the terms are generally very short and costly.

Pros and Cons of Payday Loans

Payday loan cash advances are sometimes useful in emergencies, but the cons may outweigh the pros.Pros of payday loans:
  • Convenience The biggest draw for payday loans is their convenience. They offer money in hand, and you don’t have to fill out much paperwork or wait for long to get it. You may even be able to get one online if you live in the right area.
Cons of payday loans:
  • Hefty costs The costs for payday loans are very high. They require you to pay a significant amount of interest within a limited time, which could be anywhere from several days to a few months. Payday lenders can charge as much as 780% in annual percentage rate (APR), with an average loan running at nearly 400%.
  • Rarely helps credit A payday loan cash advance usually won’t affect your credit because payday lenders typically don’t report to the credit bureaus
  • Not available nationwide The District of Columbia, along with 16 states (Arizona, Arkansas, Colorado, Connecticut, Georgia, Maryland, Massachusetts, Montana, New Hampshire, New Jersey, New York, North Carolina, Pennsylvania, South Dakota, Vermont, and West Virginia) prohibit payday loans.

Merchant or Business Cash Advances

A merchant cash advance (MCA), sometimes called a business cash advance, allows small businesses (merchants) to cover immediate expenses. In return, the MCA company typically receives a percentage of the business’s sales until the debt is paid off.MCA funds may be available as soon as 24 hours after approval. Typically, the MCA company collects its payment by withdrawing funds regularly from the merchant’s bank account or taking a percentage of the business’s proceeds from debit or credit card deposits.Rather than an interest rate, MCA companies will often use a factor rate in their transactions. That’s a decimal figure, typically ranging from 1.1 to 1.5, calculated based on the risk the small business presents to the lender. That number is multiplied by the original amount borrowed to arrive at the total owed. For example, if you have a factor rate of 1.2 and borrow $50,000, multiply the two numbers together to get $60,000. You owe an extra $10,000 on your $50,000 loan, plus any additional fees.

Pros and Cons of Merchant Cash Advances

Typically, merchant cash advances are a last resort. However, they do have both pros and cons. Pros of merchant cash advances:
  • Convenience Compared to traditional loans, MCAs usually provide funds quickly. They also don’t require collateral, which may be a prerequisite for other financing options. Since most MCAs withdraw from your sales automatically, you also don't have to worry about paying each month.
  • Accessible with low credit Whether you still need to build your business credit or have a low credit score, you can still pursue an MCA, even with bad credit.
  • Simple application process MCA lenders tend to require minimal paperwork, often just the business’s basic financial information.
  • Adjustable payments Your payments are tied to how much your business is making.
Cons of merchant cash advances:
  • Cost Factor rates and potential additional fees can make MCAs an expensive option. Relying on one too heavily can put your business in a debt cycle and restrict your cash flow.
  • No prepayment advantage There are no benefits to making MCA payments early. Unlike loans, MCAs typically don’t amortize or take off interest as you pay back the balance.
  • Doesn’t improve credit Merchant cash advance companies generally don’t have to report to credit agencies, so a merchant cash advance doesn’t help your business credit score.
  • Contracts can be confusing The costs and repayment structure of MCAs can be complicated, and contracts often include unfamiliar terms that can make them difficult to understand. Also MCA providers typically do not provide APRs, which can make it difficult to compare the MCA to other financing products. 
Recommended: Business Loans vs Business Lines of Credit Compared

Is a Cash Advance Right for You?

Cash advances are usually a last resort. However, there are times you may need to use one. For example, a credit card cash advance may be your only option if you don't have enough money on hand for a necessary service that doesn't take credit cards. Maybe you’re driving cross-country and start to have engine trouble. The only car repair shop for miles does not accept credit cards and you don’t have enough cash to spare on the repairs. You head to an ATM and take out a credit card cash advance to cover the costs, hopefully with the knowledge that you will have enough money in the near future to pay back the advance. This is just a hypothetical example but speaks to the unique and dire circumstances that may warrant a cash advance. You may also need a cash advance if you're traveling abroad and need to pay cash for services, goods, or gratuities. Cash advances may be your only option if you travel abroad, where businesses may not accept American credit cards.As a small business owner, a cash advance may be your only option if you need money quickly to cover a shortfall in cash flow, especially if your business is new or your credit is poor.Recommended: How Does Merchant Cash Advance Consolidation Work?

Alternatives to Cash Advances

Just because cash advances provide quick access to cash doesn’t mean they’re the only, or the best, option. Individuals tempted by cash advances may be concerned about a poor credit history keeping them from loan approval. But these days, many lenders offer options to people with lower credit scores. [If you’re looking for money for your small business, there are also other business financing options worth considering, including: 
  • Microloans Small businesses in need of relatively small amounts of money may be able to apply for microloans from various sources. Turnaround is often speedy.
  • Business line of credit This is short-term business funding in which a lender makes a certain amount of money available for you to borrow from as needed. You pay interest only on the balance due.
  • Business credit card Like business lines of credit, you can also use these for an immediate expense. They often come with rewards that may appeal to small business owners.
  • Personal loan for business Especially if you have good personal credit, you might want to take out a personal loan to use for your business. Typically, there’s less paperwork and a faster approval time than there would be for a business loan. Some lenders don’t allow you to use the proceeds of a personal loan for business, however, so you’ll want to check into any limitations. 
Bear in mind, too, that online lenders may have less rigorous requirements and offer faster approvals than more traditional lending institutions. Some online lenders allow for prequalification, which means you can find offers with specific rates and terms without affecting your credit score. If you want to learn more about financing opportunities that may be open to your small business, Lantern by SoFi can help. You can use our fast online search tool to get a personalized small business loan option in minutes.Let Lantern help you find the right financing solution for your small business.

About the Author

Ashley Kilroy

Ashley Kilroy

Ashley Kilroy is a personal finance expert with years of experience in radio, newspapers, magazines, and online content. Her work has appeared on websites including Forbes and Yahoo Finance. Ashley writes on a variety of personal finance topics for SoFi, including student loans, taxes, and insurance.
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