Business and cash flow management

What is a merchant cash advance?

A merchant cash advance (MCA) is a type of financing in which you receive a lump sum of money and repay it using a percentage of your card sales plus a factor rate (instead of an interest rate). While they’re sometimes used by retailers as a fast cash injection, MCAs are an expensive and risky type of business financing, and the strain of repayment and high fees can restrict cash flow even further if you’re unprepared.

What you need to know

  • A merchant cash advance is an advance lump sum you repaid daily, as a percentage of your card sales plus a factor rate. They are not traditional banking loans.
  • Merchant cash advances are not subject to the same legal regulations as traditional loans, making them faster but also higher risk. 
  • Consider traditional loans before applying for a merchant cash advance. If you do use one, get help from an accountant and track your repayment with specialized software.

How does a merchant cash advance work?

When you receive a merchant cash advance, you’ll receive the full advance upfront. Then, you’re responsible for repaying, but this works differently than a term loan. Instead of an interest rate, merchant cash advances charge a factor rate. These are expressed as a decimal—for example, a factor rate of 1.4 means you pay back 140% of the loan amount. Each day, you’ll pay a percentage of your debit and credit card sales—this is called the holdback rate.

For example, if you accept a $100,000 merchant cash advance with a factor rate of 1.4 and a 15% holdback rate, your lender takes 15% of your card sales each business day until they’ve received $140,000.

Here are the basic steps to apply for, receive, and repay your merchant cash advance:

  1. Find a lender willing to give you an advance and negotiate the amount, factor rate, and holdback rate. 
  2. Receive the advance to your business checking account. 
  3. Repay your loan amount plus factor rate based on your card sales.

How is a merchant cash advance different from a loan?

When choosing a merchant cash advance over a traditional business loan, there are several important pros and cons to consider:

MCAs are not loans

Merchant cash advances are legally distinct from business term loans and lines of credit—they don’t require a credit check or collateral, and they’re not reported to the credit bureaus, so they won’t build business credit. They’re also not subject to the same legal regulations as loans, removing the financial protections you’d otherwise receive in case you default.

MCAs are repaid daily, based on your sales

Unlike traditional term loans, which are repaid monthly and in fixed installments, merchant cash advances are repaid daily. These repayments are proportional to your debit and credit card sales every day until the advance plus factor rate is repaid. 

MCAs are fast and easy—but also expensive and risky

Merchant cash advances can be useful for covering short-term cash flow problems, as they’re fast and easy to get. However, they’re also very expensive, with high APRs. This makes them riskier for businesses, as slow sales could prolong the payment period and costs. They’re also not regulated as loans which can put your business at greater risk than defaulting on a traditional loan.

Tips for safely managing a merchant cash advance

Cash flow problems, even temporary ones, can be alarming for business owners. Merchant cash advances can be a useful source of funds, but they need to be properly managed. Follow these tips when deciding how to safely cover your short-term cash flow issues:

Consider these alternatives before applying for a merchant cash advance

You may be tempted to use a merchant cash advance because they don’t require credit checks, especially if you’re a small business without a strong credit profile. However, there are other lower-risk options which may be available to you. Consider these alternatives before applying for a merchant cash advance:

  • SBA loan: Loans directly from the Small Business Administration are suited to new businesses that don’t yet qualify for banking loans. SBA loans are government-backed and can be used for start-up costs, expansions, working capital, and more.  
  • Business term loan: For short-term financing or major purchases that require upfront capital, consider a term loan. Unlike MCAs, term loans are repaid in fixed monthly installments over a term of months to multiple years.
  • Business line of credit: If you experience periodic fluctuations in capital (such as seasonal shifts), a business line of credit is a flexible long-term source of capital. Lines of credit are a pool of funds from which you can draw on-demand and repay over time.

Get help from an accountant

Consult with an accountant before applying for any type of funding, but especially a merchant cash advance. Accountants can help you cut costs to balance your forecasted budget and expenses, or recommend a merchant cash advance pricing software for you to manage your repayments.

Manage your payments with a merchant cash advance​ pricing software

Specialized MCA pricing software can integrate with your payment processor to automatically calculate your repayments and send them to your lender. Breakdowns of your payments can also be helpful for your accountant, especially if they sync with your business banking provider’s tools. Customer support for these programs can be an additional source of help, but always consult a licensed accountant first.

What to do if you default on a merchant cash advance

Merchant cash advances are expensive, so making payments on them can be difficult if your business is already low on cash. If you miss one repayment, you are in default, and you should contact your lender immediately—they may be willing to restructure your debt, though they have less incentive to do so than traditional banks. 

Merchant cash advance lenders can be more aggressive when pursuing collection than traditional banks, hiring a collection agency or taking legal action against your business. If this happens, hire a debt lawyer and work closely with an accountant to try and settle the advance.

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Disclaimer

This content is for educational purposes only and should not be construed as professional advice of any type, such as financial, legal, tax, or accounting advice. This content does not necessarily state or reflect the views of Bluevine or its partners. Please consult with an expert if you need specific advice for your business. For information about Bluevine products and services, please visit the Bluevine FAQ page.

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Disclaimer

This content is for educational purposes only and should not be construed as professional advice of any type, such as financial, legal, tax, or accounting advice. This content does not necessarily state or reflect the views of Bluevine or its partners. Please consult with an expert if you need specific advice for your business. For information about Bluevine products and services, please visit the Bluevine FAQ page.

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