What is a Merchant Cash Advance? Is it Right for You?
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How a Merchant Cash Advance Works
Taking a percentage of the merchant’s daily debit or credit card deposits Withdrawing funds directly from the merchant’s bank account on a fixed schedule
Factor Rate Used for Merchant Cash Advances
The type of industry your business operates in Your business’ financial history Credit/debit card sales Number of years in business
Merchant Cash Advance Companies
Small Business Loan vs. Merchant Cash Advance
Equipment financing Invoice factoring SBA loans Small business loans Working capital loans Online business loans
Common Uses for a Merchant Cash Advance
Fill cash flow gaps: If a small business has fluctuating cash flow, which may prevent them from making bill payments or payroll, a merchant cash advance can act as supplementary funding until cash flow returns. Emergency/unexpected expenses: If short-term business loans are not accessible to cover unexpected expenses, small business owners can opt for a merchant cash advance that could get them cash within a couple days. Inventory: For small businesses with consistent credit/debit card sales, an MCA can be used to purchase inventory and then repaid with a percentage of the revenue from inventory sales. Seasonal fluctuations: Some businesses have significant revenue changes depending on the season. To ensure there’s cash on hand, small business owners can get a merchant cash advance to cover any expected losses during down time. Start-ups with little to no business history Those who have low or no credit, and don’t want to apply for a bad credit business loan Small business owners who don’t have collateral to offer Pioneers in new industries Unable to qualify for loans from banks, credit unions, or online lenders
Benefits and Risks of Merchant Cash Advances
Pros of Using MCAs
Quick funding: Unlike a traditional loan, you can expect to receive funds in a matter of days. Minimal paperwork: Merchant lenders offering a cash advance typically require a simple application and want to see basic financial information about your business, like a record of recent credit card transactions. Unsecured: Business owners do not need to offer collateral to obtain a merchant cash advance. Payments may change with sales: If the merchant cash advance is based on a percentage of sales, the repayment amount might adjust depending on the success of your business. Don’t need perfect credit: If you have low credit scores, haven’t established business credit, or are struggling to get a short or long-term business loan, a merchant cash advance can help supplement.
Cons of Using MCAs
Expensive: Factor rates typically tack on an additional 20% to 50% of the cash advance, or a rate of 1.2 to 1.5, depending on terms and conditions of the MCA. When you consider additional fees and APRs possibly in the triple digits, a merchant cash advance can be significantly more costly than a traditional loan. No advantage to early repayment: With a merchant cash advance, you typically pay a set amount regardless of how much of the balance you’ve paid off. Merchant cash advances do not amortize like a loan, in which case you could pay less interest when you pay off the balance early. Lack of government oversight: Because MCAs are considered to be a commercial transaction, merchant cash advance companies can offer cash advances to those who otherwise may not qualify for a small business loan. However, the lack of specific government regulation can also lead questionable financing practices and less protection for your business. Don’t promote good credit: Merchant cash advance companies are not required to report to credit agencies. If you’re trying to build good business credit, using an MCA is unlikely to help the same way a loan would. Hard to get out of debt: If you struggle to get loans, relying on high-APR merchant cash advances has the potential to keep you in a debt cycle that can be hard to get out of. Cash flow restriction: While using an MCA can help secure funding in the short term, it could hurt cash flow in the long term. If you agreed to give your merchant lender a high percentage of your daily credit/debit card transactions, for example, cash flow may run leaner during the MCA repayment period, especially if your sales are high.
Applying for a Merchant Cash Advance
Fill out an application: A merchant lender may ask for basic identification like your Social Security number, business tax ID (EIN), and contact information. Collect and provide necessary documentation: This can vary depending on the MCA company, but you may need records of credit card transactions, business banking statements, lease agreements, gross revenue, and tax returns. Approval: Getting a decision can take as little as 24 hours or a few days depending on the company. Set up credit card processing: Your business may be required to set up credit card processing with a specific partner of the MCA provider.
Alternatives to Merchant Cash Advances
Invoice factoring or financing: Invoice factoring and financing use unpaid invoices as collateral in exchange for a cash advance from a lender. This is different from an MCA, which is based on projected sales. Invoice factoring also typically has a lower APR than MCAs, generally falling between 15% to 35% Inventory financing: Funding is provided to pay for products that will be sold at some time in the future. The inventory acts as collateral for the loan. Equipment financing: Secured loans used for the purchase of machinery, vehicles, or other business-related equipment. SBA loans: Backed by the U.S. Small Business Administration and offered by banks and approved lenders. Personal loans: Personal loans are typically unsecured and based on your personal credit history (not business credit) and can be versatile financing options. Note that some personal lenders prohibit the use of funds for business purposes. Commercial real estate loans: Funds for the purchase of business-related real estate like an office space or retail shop. Business credit cards: Similar to a business line of credit, these can be used for short-term business needs. Business credit cards use a revolving line of credit with interest only charged on unpaid balances from previous billing cycles. Small business loans from online lenders: Some online lenders offer similar loan options as a traditional bank, but typically have a faster approval process and may offer more options (albeit usually at higher interest rates) for people with lower credit scores. Business line of credit: A short-term financing option that can be revolving or non-revolving in which you pay interest on unpaid balances.
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