Merchant Cash Advance is when a lump sum payment is given to a business in exchange for a percentage in future credit and/or debt card sales, this is what it was originally structured to be for. It can also be for small businesses to have a way to have access to cash on hand instead of having a business loan. It is mainly the way that some businesses have to gain a percentage of future sales of other businesses, especially small businesses that may not have the capital to continue to do business. This helps the small business and the larger one at the same time, for one it helps out with the capital that it needs to carry on with their business dealings and the other to get a set percentage of future sales, so both sides gets what they are wanting and or needing.
As with anything, MCAs has good and bad sides to consider when deciding on whether to take out a conventional loan or to go with a MCA. One thing to consider is that while both regular loans and MCA, they both have annual percentage rates on repayment. However MCA’s most of the time carries a triple digit rate which can cause a small business to flounder and even go bankrupt if not extremely careful and thoughtfully planned out. While the businesses that historically use MCA’s are ones that are restaurants and retail shops this is by no means restricted to these types of businesses. They use them mainly because they rely on credit and debit card sales, but other businesses that does not are using them as well. Basically, the MCA’s are for those whose needing cash up front for a percentage of future sales, so other businesses are utilizing them as well but it has been shown that along with the high interest rates the daily repayment can break a small business if not structured well.
There are two ways for repayment of a MCA; one way is to give a percentage of future credit and debit card sales as repayment or have repayments fixed debits from the business bank account on a daily or weekly basis. The second way is for the ACH to make weekly even daily debits from the business bank account along with their fees instead of making monthly payments. This way have become more of a main stream way of doing business with MCA than any other form of repayment plans. An ACH stands for Automated Clearing House which charges a fee to use so along with the fixed amount the business pays for the cash advance they also have the ACH fees to pay as well. The amount that would be repaid is dependent upon a risk assessment and the ability to repay. Either way, until the advance has been repaid the business will be assessed fees along with interest and the original advance as well.
A good example of how this works is the following:
A) Let’s say that a business needs $50,000 to purchase some equipment needed to continue to do business. The business owner applies and gets approved for a $50,000 so, the provider assigns a factor rate of 1.4 on the contract, so now to repay it will be $70,000. A typical repayment period usually is 12 months (1 year) the higher the credit card sales the faster the repayment will be. Let’s say that the provider deducts 10% of the monthly credit card revenue to the repayment of the advance and the business is really busy and makes $100,000 in credit card sales a month. $10,000 would be repaid monthly which would mean that the money would be repaid in about 7 months instead of 12. That would mean that $333 would be repaid daily, However if business dropped to just $70,000 a month then it would take 10 months to repay and only paying $233 daily. Also, remember that business fluctuates and most the time it always takes longer to repay than originally projected therefore causing the APR to go into the triple digits.
B) Fixed Daily Withdrawals is another way of repayment of the MCA. This type of payment is daily or weekly and does not depend on credit card sales and does not fluctuate with sales. It stays the same no matter what the business makes that month or doesn’t. It stays the same amount each withdrawal of repayment each time until repaid.
Here are some of the good and the bad with MCA’s to think about when considering which one that would be the right loan to apply for:
- Quick Cash – No heavy paperwork or waiting periods. Usually received within a week or less. Providers usually look at the daily receipts especially the credit card receipts to determine repayment.
- Unsecured – MCA’s are unsecured and won’t have to forfeit assets if not repaid. However, an MCA may want a personal guarantee in case the business goes out so that they may be able to recoup their money.
- When Sales Are down Repayment May be too – Sometimes it can be worked out that depending on how sales are is how the repayment is. If sales goes down then payment can be reduced as well.
Some Downsides are:
- Total borrowing cost can be anywhere from 40% to 350% APR.
- Higher sales means higher repayment amounts
- No benefit in early payoff of loan
- No federal oversight
- Credit Scores may be pulled
- There is a debt cycle danger which means that with the ease and speed of an MCA can put a business in debt cycle that they can’t pull out of which can put them in default if they aren’t careful.
- Confusing contracts – MCA’s does not provide APRs which makes it hard to be a smart shopper when trying to get financing to begin with.
These are just a few of the things that one may need to consider when trying to decide on the type of financing that they can afford and that they believe they can be comfortable with when it comes to the terms. Caution is always advised.
There are some Merchant Cash Advance service such as from delancey street.