Merchant cash advance for small business

Merchant Cash Advance: Pros and Cons

5 min read • Dec 10, 2021 • Lendio

It’s pretty rare that a small business doesn’t have a goal of more money coming in than going out. But things happen and there are times when unexpected costs, situations, or even opportunities arise that can disrupt cash flow. One solution to keep cashflow steady in moments like these is a merchant cash advance.

What Is a Merchant Cash Advance?

A merchant cash advance is a financing option that helps a small business tap into its future earnings. But unlike a loan, which is paid back monthly (sometimes more frequently) with a set payment amount (installments of principal and interest), merchant cash advances are repaid more frequently and repayment begins almost immediately upon receiving the financing with daily or weekly payments tied directly to sales.

Cash advances, which may also be referred to as ACH loans or advances, are often used by business owners to overcome financial slumps or slow periods or to overcome an unpredicted situation or opportunity. The funds can help stabilize cash flow through a short time period. They’re also similar to personal cash advances: both options are tied to future income.

What Is the Repayment Schedule?

Merchant cash advances are known for their flexibility. In most cases, the financier or lender will take either a fixed amount each day or a percentage of sales weekly or daily.

Fixed Repayment of a Merchant Cash Advance

Fixed repayment means a set amount is withdrawn from the business’s/borrower’s account regardless of how much is earned. This option allows a business to calculate exactly how long it will take to pay back the advance based on the amount borrowed. For example, if the cash advance is $5,000 plus interest and the weekly withdrawal is $500, the advance will be paid in a little over 10 weeks.

With a fixed repayment, the borrower knows up front exactly how much will be removed each day or week. 

Percentage of Sales Repayment of a Merchant Cash Advance

Percentage repayments mean a variable amount is pulled, calculated based on the day’s, week’s, or month’s revenue. While it’s more difficult to predict the final payment date with this option, the business owner knows that the automated payment will be less than their income and limited to the pre-arranged percentage of sales. 

The downside is that the business has little control of the speed at which the advance is repaid. If the business sees a spike in sales, repayment is faster. A sales slump? The repayment is slower.

What Are the Benefits of a Merchant Cash Advance?

Beyond the unique repayment options, business owners have other reasons to consider a merchant cash advance

  • Speed of Funding. Cash advances are quick to fund and can often be funded within 24 hours of approval. So if your restaurant’s refrigerator breaks in the middle of the summer, a cash advance may literally save your bacon.
  • Not Tied to Collateral. Another reason to choose a merchant cash advance is that no collateral is required. For business owners that don’t want to risk existing assets or that have little collateral, merchant cash advances can be an appealing option.
  • Long Business History Not Required. Merchant cash advances are appealing to newer businesses or businesses with a shorter financial history, although you may be asked to provide 4-6 months of bank statements, receivables, or daily sales records. 

What Are the Drawbacks (Cons) to Merchant Cash Advances?

Any funding source will have its pros and cons, which is why researching and understanding options available to your business is important. While ideal for many businesses and situations, a merchant cash advance does have limitations:

  • May Be Expensive. Cash advances are based on an interest rate. A high rate or longer repayment period due to low sales can result in an overall higher cost of financing. Before taking a merchant cash advance or any funding option, compare it with the other funding options available to you.
  • Not Federally Regulated. Since advances are considered commercial transactions, they lack some of the regulations and requirements associated with other borrowing options.
  • Credit May Still Be Checked. While cash advances are often marketed to new businesses with little or poor credit, some financiers may check credit prior to approving the advance, which could impact the interest rate of the advance. It can also impact your credit score over time. If you’re just seeing what types of financing options are available to you, work with a marketplace like Lendio, which offers a single, online application that doesn’t affect your credit.

Get to Know Your Funding Options 

You have several ways to fund your small business, whether you need short-term cash to cover immediate costs or want to increase your working capital to make longer-term investments. Start your search process by exploring different options through Lendio, where a single application will reach up to 75+ lenders so your business’s specific funding needs are connected with the right financing options.

 

Disclaimer: The information provided in this post does not, and is not intended to, constitute business, legal, tax, or accounting advice and is provided for general informational purposes only. Readers should contact their attorney, business advisor, or tax advisor to obtain advice on any particular matter.

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