What is a Merchant Cash Advance?
A Merchant Cash Advance is a form of business funding favored mostly by small businesses and entrepreneurs who have been rejected by larger financial institutions. The difference between a traditional loan and a merchant advance lies in the payment structure. Repayment for a traditional loan is based on a fixed rate at a specific date of the month. A Merchant Cash Advance is a purchase of the future credit card sales of the company repaid on a daily basis.
Like any line of credit, Merchant Cash Advances have both pro’s and cons.
The Pros of Merchant Cash Advances
- A Merchant Cash Advance payment structure is set up in such a way that there is no fixed monthly payment, no interest rate or payoff date.
- There is no collateral parameter. If the merchant’s business fails and the full financial obligation for the advance not honored, the entrepreneur’s assets are not at risk, as in the case of a bank loan.
- Repayment is calculated automatically based on the merchant’s credit card transactions; consequently, there is no risk of late charges from missed due dates that may occur with bank loans.
- Almost immediate access to funding; advances are typically made within 1 – 2 days, whereas bank loans may take up to two to three weeks, even longer to process.
- Better management of cash flow; if sales are stagnant for a period of time , you pay less to the MCA company because repayment is set up that they collect only a set percentage of monthly sales, without any minimum amount required.
- No overwhelming paperwork is required.
- Funds are easily accessible. If you cannot wait for a traditional loan to be processed and granted, a Merchant Cash Advance will help you get access to money fast.
Although the above advantages may seem like Merchant Cash Advances are a Godsend for startups and small business owners, however just like all lines of credit, there are flaws.
Cons of Merchant Cash Advance
- Because Merchant Cash Advances involve the purchase and sale of future incomes, they are not considered loans. Since the agreement never surpasses a year, firms putting up the financing don’t have to follow regulations on interest rates that traditional lenders are required to follow.
- Although there is no actual interest rate with a Merchant Cash Advance, the overall fee that you may incur will be substantially higher than that of a traditional loan. Experts estimate estimates the equivalent APR (annual percentage rate) for a merchant cash advance fee ranges anywhere between 60% and 200%.
- The rationale behind APR is so much higher is that a traditional loan is paid back on a monthly percentage based on the balance owed, not the entire amount of the obligation. As such, as the loan is paid off and the balance diminishes, the interest paid is less. In the case of a merchant cash advance on the hand, a fixed fee is charged for providing the advance. It can range from as much 30% of the advance. To avoid predatory lending practices, federal and state laws regulate banks. MCA providers, because they are buying future receivables and not issuing a loan, they are not similarly regulated. As a result, they are exempt from state usury laws prohibiting charging fees that exceed industry standard interest rates.
- Since MCA’s are not traditional loans and not as stringently regulated as traditional loans. This lack of regulation has led to some lenders engaging in unsavory practices such as companies advancing more money than a business has capacity to repay. Furthermore, there are also cases in which where the cash advance company changed its billing practices without notifying the merchant borrowers.
- Most cash advance contracts prohibit lenders from changing credit card companies. As such, if you are unhappy with your credit card company, you are stuck with them until the advance is repaid.
- Encouraging your customers to pay in cash is a breach of contract since a percentage of your credit card sales go to the MCA company.
Before entering into a Merchant Cash Advance agreement, it is advised to thoroughly weigh the pros and cons. The business debt relief lawyers at Shipkevich PLLC are well versed in representing clients that are overwhelmed with Merchant Cash Advances and have represented many entrepreneurs who have been victims of unfair MCA lending practices.
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