Business Loans

What You Need to Know about a Merchant Cash Advance

Feb 06, 2020 • 10+ min read
Small business owner using a merchant cash advance
Table of Contents

      A merchant cash advance is a charter member of the family of financing products known for delivering money to your bank account at blazing speeds. This quickness can be essential even if you’ve planned meticulously for your business expenses because there’s only so much you can do or foresee.

      Some in the small business world actually scoff at the idea of planning. They argue that forecasting is impossible for something as mercurial and unpredictable as entrepreneurship. Rather than waste time crunching numbers and staring into your crystal ball, they say, you should do everything in your power to remain limber. By staying on your toes, you’ll be ready to dodge, duck, weave, and pounce as necessary.

      While there’s some truth to this sentiment, the power of planning will never be diminished. In the words of President Dwight Eisenhower, “Plans are worthless, but planning is everything.”

      As you do your best to anticipate what’s coming down the pike, you’ll accomplish 2 things. First, you’ll prepare yourself financially for the recurring expenses you already know you can count on. Examples of these include utilities, rent, marketing, and inventory. Second, you put yourself in a position to set money aside for the things you don’t yet know about.

      Depending on your industry, unexpected expenses can run the gamut. Common examples include property repairs, equipment replacement, vehicle upgrades, and inventory glitches. Perhaps you need extra money to pay off creditors or keep your business afloat during a slow season. Or you may want to take advantage of a new business opportunity you’ve encountered.

      “Budgets are traditionally woven into the fabric of most businesses,” explains Mark Rygelski, an expert in financial strategy. “Everyone uses them. Banks require them. Employees expect them. But, in reality, budgets are terribly ineffective management tools. They are treated as something revered and to be adhered to without question […] When you create a budget, you can do your best to plan for the unexpected, but the very definition of ‘unexpected’ dictates things never happen the way you think they will.”

      Between recurring expenses and the inevitable challenge of unexpected costs, cash flow is a major stress for most businesses. Research shows that the majority of small businesses in America only have enough money on hand to cover 27 days of their average outflows. And the top 25% of the businesses that participated in this study only possessed enough money for 2 months.

      Clearly, cash reserves are in short supply. The problem isn’t necessarily a lack of planning. It’s the tight profit margins of most small businesses. Yet it takes money to make money. As Forbes so astutely put it, “cash is king.” And when you need to get your hands on some cash in a hurry, it always pays to have good options.

      Merchant Cash Advances Are a Prime Source for Fast Cash

      Small business owner paying off their merchant cash advance with credit card transaction

      Prior generations of entrepreneurs had limited options when faced with sudden business expenses. Some would try to borrow money from friends or family, which is a solid strategy if you have wealthy loved ones who enjoy sharing their money. Most would go to their local bank and seek a loan. The problem with the bank route was that more than half of the applications submitted were rejected. On top of that, the approval process could take several weeks.

      Loans from the Small Business Administration (SBA) have been beloved for decades due to their favorable terms and higher-than-usual approval rates. But they fund even slower than traditional bank loans, taking up to 3 months for the money to hit your account.

      Due to the limitations of many loans, merchant cash advances (also known as MCA loans) rise to the top of the pile when you need fast cash. With this type of financing, you can qualify for as much as $200,000. True, this amount pales in comparison with the millions of dollars you can get with a business term loan or equipment financing, but fast money always comes in smaller amounts in the financing world. Plus, you’re probably not looking for piles of cash here. You just need to get your hands on a manageable amount of money that’ll help resolve your short-term need.

      Once you submit your application for a merchant cash advance, plan on rapid action. If the lender approves your request, you can have money in your account in as few as 24 hours. This funding is screaming fast compared to other loan options, which typically take at least a week to fund, if not months.

      Your merchant cash advance is built for speed and efficiency from top to bottom. So not only will the amount be compressed, but so will the repayment terms. You can expect to need to repay the money within 2 years. 

      How a Merchant Cash Advance Works

      Customer using their credit card to make a purchase at retail store

      With merchant cash advances, the future of your business is more important than ever because you’ll be leveraging your future credit card processing receivables to get the money you need. Once you’ve received the money from the lender, your repayment begins. Each day, the lender will withhold the agreed-upon percentage of your credit card deposits.

      Perhaps it’s concerning to think of credit card receivables being taken by the lender on a daily basis. The important thing to remember is that it’s done on a percentage basis, not a lump sum. This setup means if your business is going through a slow period, less money will be extracted. And when business is booming, a larger amount will be taken out.

      Another point to note is that due to the unique structure of a merchant cash advance payment, it’s actually considered a sales transaction. This designation means it won’t appear on a credit report like a more traditional loan does.

      There are 2 ways the repayment of a merchant cash advance can be handled:

      1. Split withholding repayment: This method is the most popular used in the United States. It permits a lender to take their agreed-upon percentage from your revenue each day.
      2. Lock-box repayment: With this alternative method, your daily deposits go straight to an account the lender oversees. Every day, you’ll receive your share of the previous days’ deposits.

      With a merchant cash advance, you won’t have to worry about limitations on usage. The MCA loan is great because it allows you flexibility that doesn’t come with more focused forms of financing such as equipment financing or business acquisition loans. Remember how unpredictable short-term cash flow demands can be? You could be buying a new delivery truck, fixing a broken refrigerator, hiring a new receptionist, repairing your office roof, or acquiring a new business. In all these scenarios, a merchant cash advance can provide the cash with none of the scrutiny on how you’re spending it.

      Expedited financing usually comes with a premium price, and merchant cash advances are no different. To access fast money and liberal requirements, you’ll need to plan on interest rates starting around 18%.

      The cost of an advance is typically considerably more than your standard bank loan,” says Forbes. “A key to whether you should consider taking an MCA versus a more traditional loan option, such as a small business loan or line of credit, could be determined by how pressing your needs are. If your need for funding is immediate, then the value of speedy funding with an MCA could be justified, provided you have the cash flow to pay back the advance.”

      Another Option to Consider: ACH Loans

      There’s another version of fast financing called an automated clearing house (ACH) loan that embraces many of the benefits of a merchant cash advance. It also provides liberal access to moderate amounts of streamlined cash.

      A big difference between a merchant cash advance and an ACH loan is how your loan amount and terms are determined. With a merchant cash advance, the lender will analyze your credit card processing statement before deciding what the daily percentage will be for your repayment. With an ACH loan, it’ll be your bank account statements and deposits that determine your terms. And the repayment amount will be a fixed sum, unlike the percentage method used for a merchant cash advance.

      After you receive your money from an ACH loan, the lender will get their payment as an ACH deduction directly from your bank account. Depending on the structure of your loan, this will be done on a daily or weekly basis.

      ACH loans do not require a FICO credit check, which brings positives and negatives. First of all, no credit check means a faster approval process and no impact on your credit report. On the other hand, the interest rates are quite high and the amounts rarely exceed $10,000. You should also expect a short repayment period that ranges from 3–6 months.

      Qualifying for a Merchant Cash Advance (or ACH Loan)

      Small business owner using their credit card transaction history to qualify for a merchant cash advance

      Nearly every aspect of a merchant cash advance is designed to be easier than a traditional loan, so it should come as no surprise that the qualification process is efficient. Rather than the mountains of documents needed for many loans, you’ll enjoy a fairly streamlined application experience. In most cases, you’ll need to submit 4–6 months of bank statements, along with some other basic documentation.

      Remember, these types of financing are based on the present and future of your business. So things related to your past, such as credit scores and lengthy financial histories, don’t get as much attention. If your business is performing well, lenders will consider you a safe option. Your daily revenue is their meal ticket, and that’s where they’ll focus their scrutiny.

      For this reason, a merchant cash advance is ideal for small business owners who haven’t been in operation for very long. Lack of tenure won’t be a problem when your credit card transactions are solid. As a rule of thumb, as long as your monthly transactions surpass $2,500, you’ll be in a prime position for approval.

      Because the approval process is based so heavily on your current business performance and lenders don’t go digging into your past, the review process also benefits your credit score because there won’t be inquiries appearing on it.

      Due to the structure of merchant cash advances, you also won’t be at as high of a personal risk.

      “One of the other benefits of an MCA is that a personal guarantee on the money is not always required,” explains Forbes. “The advance often can be strictly in the business’s name. That means your personal credit as the business owner won’t necessarily be attached to the advance and that you may not personally carry any liability. There are times when a personal guarantee or collateral, such as real estate, may be required, depending on the amount of the advance you’re requesting. Typically, if you stay within 100% to 150% of your monthly revenue stream, a guarantee won’t be required.”

      In situations where you’re requesting larger amounts of cash, you can anticipate the need for a guarantee. Likewise, you’ll often need to provide the lender with more documentation to help them make an informed decision.

      Examples include:

      •     Tax returns
      •     AR (accounts receivable) summary
      •     Profit and loss statement

      But don’t lose perspective in this process. Even if you are asked to attach a few additional documents to your application, it’s still going to be significantly easier than applying for a traditional loan. 

      Additional Considerations for Merchant Cash Advances

      It’s tempting to look at the simplicity of a merchant cash advance and view it as the obvious choice over financing options such as business term loans, equipment financing, startup loans, or SBA loans. But each of these financing products has their place, and none of them is a silver bullet for all situations.

      For example, a merchant cash advance can be an ideal situation for short-term cash needs. But it’s not a sustainable solution. Consider the cost, which is nearly always higher than average. It wouldn’t be fun to always have a high-interest repayment obligation cutting into your daily revenue.

      On top of that, only one lender at a time is allowed to remit payments from your credit card processor. This structure makes it nearly impossible to have multiple merchant cash advances at the same time. If you were to opt for an ACH loan, you would be permitted to have more than one at the same time, but the high interest rates would make even that strategy questionable.

      If you already have a merchant cash advance set up and are interested in renewing, you can talk to your lender about that possibility. Assuming you’ve paid off at least half the loan and your business has performed well enough to have a reliable payment history, you should stand a good chance of getting approved.

      For those who prefer to pay off loans early, the structure of merchant cash advances makes it so the strategy isn’t as beneficial as it would be for a regular loan. There’s not an interest rate or APR attached to the loan, so you won’t really save money by paying it off early. If you speak with your lender in advance, however, you might be able to arrange a scenario where you repay your balance faster and they give you a discount for doing so. After all, the faster you pay off your obligation, the lower the risk for the lender. 

      Selecting the Best Merchant Cash Advance

      When it comes to choosing which financing option to go with, remember that due diligence is essential. Because there aren’t as many cost metrics to consider with a merchant cash advance, you can easily line up the rates from various options and then select the top contenders for a closer inspection. Carefully read through each lender’s agreement and look for any irregularities. The last thing you want is for a surprise to pop up after you’ve signed an agreement. 

      Also be aware that funding timelines vary from lender to lender. If your business situation requires you to get the cash rapidly, this variable can be a deal-breaker for some of the merchant cash advance options. For example, the amount you’re borrowing will have a substantial effect on the timeline. While many lenders deliver the money to your account within 24 hours, a larger cash advance from some lenders could take more than a week to arrive.

      The high-pressure situations that lead many small business owners to seek a merchant cash advance also make it less likely they’ll take the time to thoroughly consider their options. But as you carve out the time to research various lenders and find your perfect match, you’ll be rewarded with a smoother application process and more affordable financing. In essence, an ounce of prevention will be worth more than a pound of cure.

      About the author
      Grant Olsen

      Grant Olsen is a writer specializing in small business loans, leadership skills, and growth strategies. He is a contributing writer for KSL 5 TV, where his articles have generated more than 6 million page views, and has been featured on FitSmallBusiness.com and ModernHealthcare.com. Grant is also the author of the book "Rhino Trouble." He has a B.A. in English from Brigham Young University.

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