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10 Jul
What Is a Merchant Cash Advance?

Small businesses can turn to merchant cash advances for quick cash but may pay a steep price.

By Rebecca Lake, ContributorJune 5, 2019, at 9:21 a.m.
U.S. News & World Report

What Is a Merchant Cash Advance?

Midsection Of Businessman Giving Paper Currency To Businesswoman - stock photo

Merchant cash advances let you receive money quickly, but beware of the fees.(GETTY IMAGES)

SMALL BUSINESS financing can help you cover short-term expenses or invest in a project to grow your venture. But options can differ greatly, and some may be better than others for meeting your needs.

A merchant cash advance, or MCA, is a type of short-term financing designed to deliver cash to small businesses quickly. An MCA is often easy to access, but it doesn’t work like a traditional business loan.

In fact, merchant cash advances aren’t loans and aren’t held to the same regulatory standards as business loans. That means you could pay sky-high fees and end up with multiple advances at the same time.

Borrowers should proceed with caution. Before you are tempted by this fast cash fix, make sure you know the pros and cons.

How Does a Merchant Cash Advance Work?

A merchant cash advance is an advance on your firm’s future credit card and debit card sales. In other words, you’re borrowing against your future revenue.

An MCA is a lump sum of cash, and the amount you can borrow varies. Some lenders may allow you to borrow up to 250% of your firm’s typical credit and debit card sales. Others offer a fixed dollar amount that could range from $2,500 to $250,000, though some could be in the millions.

Most often, a merchant cash advance is repaid as a percentage of your daily credit and debit card receipts. You might have to commit anywhere from 8% to 30% of your card sales to repayment. The lender sets the percentage, and payments are automatically taken from your business bank account daily, weekly or monthly.

Some lenders may deduct a set dollar amount instead. Either way, repayment is simple because you only have to give the lender your bank account details.

factor rate or factor fee determines the cost of a merchant cash advance rather than an annual percentage rate, which is common with business loans, lines of credit or credit cards. The factor rate ranges from 1.1 to 1.5, although some lenders may set it lower or higher.

Simply multiply the factor rate by the advance amount to figure out how much you will owe. If you borrow $100,000 with a factor rate of 1.2, you will repay $120,000.

Repayment terms are often eight to nine months, but you could find some as short as three months or as long as 18 months. MCAs, in this way, are more like short-term business loans than other loans, which could give you five years or longer to repay them.

Merchant Cash Advance Benefits

MCAs offer several advantages over other types of small business funding. One key benefit is how quickly you can receive the money. You could be approved for your advance and get cash in one to five business days, depending on the lender.

“Merchant cash advances are engineered for speed,” says Brock Blake, CEO and founder of Lendio, a small-business lending platform. “If your business has an urgent need, such as a crucial piece of equipment breaking or a lucrative opportunity to seize, an MCA will give you quick access to funds.”

Still, other features make merchant cash advances attractive for small businesses. Unlike small-business loans, no collateral is needed to secure an MCA, but lenders require a cut of your future card sales.

That makes them an extremely flexible funding option, says Solomon Berkoff, principal at Charleston Capital Management, an asset management firm focused on small business finance.

“They don’t require extensive due diligence. They’re underwritten based on bank statements,” Berkoff says.

Also, he says the percentage-based repayment plan many lenders use makes MCAs a good choice for small firms with fluctuating revenue. This model allows repayment to be proportionate to daily credit and debit card sales.

You don’t need perfect credit to get a merchant cash advance, either. If you have late payments or a bankruptcy on your credit report, this may not count against you, as with a traditional business loan. You could get an MCA with a credit score as low as 550, and some lenders may dip to 500.

Why a Merchant Cash Advance Might Not Work

Before you commit to a merchant cash advance, consider the cost.

At first glance, it may not seem that high. But you have to look at the effective APR for the entire repayment period. Effective APR accounts for compound interest and fees.

Going back to the example of a $100,000 advance with a 1.2 factor rate, you will need about 360 days for repayment if you project $50,000 in monthly card sales and withhold 20%. The daily payment would come out to about $333, and the effective APR would be 38.06%.

The higher your monthly credit card sales and the faster you pay off your advance, the higher the effective APR can go. Using the previous scenario, if your card sales reached $60,000 monthly, you would repay the advance in 300 days, but the effective APR would climb to 45.68%. Effective APRs can even hit the triple digits. There’s no benefit to paying off your advance faster because payments are fixed, based on a percentage of card sales.

When you’re looking solely at the effective APR, a merchant cash advance can lose some of its luster compared with other financing options.

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How to Qualify for a Merchant Cash Advance

Spotless credit isn’t a must, but your business has to meet other criteria. You often need:

  • An operating history that includes accepting and processing credit and debit card payments.
  • A record of credit and debit card sales.
  • A minimum monthly volume of card sales.
  • A minimum annual revenue.

Do lenders strictly follow the criteria? Not necessarily. They assess applications on a case-by-case basis and look at your full financial picture. Say, if you haven’t been in business long but have a strong personal credit score, that could work in your favor.

Strong credit card sales are key overall for lenders. This factor, more than anything else, shows how likely your business is to repay an advance.

Merchant Cash Advance Alternatives

Anytime you’re making a decision about business financing, compare all the options first. With that in mind, you could follow three other short-term financing paths than the merchant cash advance:

  • Short-term business loans. A short-term loan can give your firm a lump sum of cash to meet working capital needs or to cover day-to-day expenses. It may have a fixed or variable APR. These loans may require a personal guarantee but not collateral. Short-term loans are suited to established businesses with strong credit scores and solid financials.
  • Business lines of credit. Instead of a lump sum of cash, you receive access to a revolving credit line you can tap as needed. You only pay interest on the amount you borrow. A business line of credit is flexible enough to cover just about any funding need. But as with short-term loans, good credit and an established operating history are musts.
  • Business credit cards. Another source of revolving credit, these cards give you some flexibility in spending and earn points, miles or cash back on purchases. A business credit card may be easier to get than a short-term loan or line of credit, especially if you have a newer business. Just remember to compare the fees and the APR if you plan to carry a balance on your card.

09 Jul
Shopify grew its merchant cash advances by 73 percent

Shopify grew its merchant cash advances by 73 percent

  • Ecommerce platforms and payments firms continue to move into lending.
  • Shopify Capital is boosting its volume of merchant cash advances.
Shopify grew its merchant cash advances by 73 percent

Quietly, Shopify is getting serious about financing small businesses.

The ecommerce platform revealed that Shopify Capital issued $76.4 million in merchant cash advances in the third quarter of 2018. That amounts to an increase of 73 percent versus the $44.1 million issued in the third quarter of last year.

In a merchant cash advance, a financing firm purchases a company’s future receivables at a discounted price. In return for a lump sum, the borrower remits a percentage of its daily sales to the financing company. Shopify announced it would enter the alternative lending space in April of 2016 with the launch of Shopify Capital.

Since opening its balance sheet to fund merchants on its platform, Shopify Capital has grown to nearly $375 million in cumulative cash advanced. Along with Shopify Shipping, Shopify Capital is part of the firm’s Merchant Solutions group, which posted revenue growth of 68 percent, to $149.5 million, for the quarter.

Shopify is following in the footsteps of PayPal and Square, two popular payment platforms that have been lending to merchants for years. PayPal Working Capital and Square Capital have issued significantly higher volumes of merchant cash advances. For example, in the most recent quarter, Square Capital facilitated over 60,000 business loans totaling $390 million. And at Money 20/20 in Las Vegas this week, PayPal COO Bill Ready told the audience that PayPal Working Capital has financed more than $6 billion for 170,000 global businesses.

Square announced recently that it would provide purchase financing for Square merchants to offer their customers. This move to consumer financing pits the firm against Affirm and GreenSky, two of the largest competitors in the space.

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