The Small Business Owner’s Guide to Merchant Cash Advance
- Posted by Sunil Bhirani
- On January 12, 2021
Is your business in financial trouble? Perhaps your business is in great shape, but you want to expand operations.
Regardless of your situation, a merchant cash advance can help.
An MCA is a cash advance that stems from your credit card sales. Under an MCA borrowers sell a portion of their future business revenue in exchange for a lump sum. The terms range from 6 to 18 months. Further, the qualification process is fairly simple.
For instance, the best lenders require an application and four months of bank statements. Also, you must be in business for 6 months or longer. It’s a great alternative funding source for startups as well.
This article will highlight the benefits of an MCA. Read further to know more.
Lenders will take daily, weekly, or monthly withdrawals from your credit card sales. For instance, a lender can deduct 10% of your monthly transactions until you pay back the advance. You can also break down the monthly payments into a daily payment:
- Example: Let’s say your payments amount to $10,000 a month. You can divide $10,000 by 30 days to get $333.33, which amounts to your daily payment.
Otherwise known as a holdback, lenders will take between 10 to 20% until the borrower repays the advance.
The repayment plan depends on the lender’s standards. Also, you can negotiate a payment system that works best for you. The best part of about an MCA is that lenders make small deductions, preventing you from making large monthly payments.
With conventional loans, you must make a fixed payment regardless of your revenue situation. With an MCA, you only make payments based on your current revenue stream.
If you make less money, you’ll pay back less money over time. On the other hand, additional revenue means you’ll pay off the loan sooner.
Rules and Restrictions
A cash advance usually comes with fewer restrictions than conventional loans. Lenders allow borrowers to use the money however they choose.
Overall, lenders don’t care how you spend the money, as long as you have enough revenue to pay back the loan. Typically, many MCA borrowers use the funds for the following purposes:
- Opening new stores
- Completing renovations
- Hiring new employees
- Meeting payroll
- Paying down debts
- Purchasing new equipment/inventory
Conversely, conventional business loans will micromanage how borrowers can spend their funds. For instance, some business lenders may not allow borrowers to use loans for real estate deals. You’ll find these types of restrictions in loans from the Small Business Administration. Additionally, you may have additional restrictions if your business has high debt.
Since MCA lenders care more about your business revenue, your credit isn’t the primary factor that determines your approval. Cash advances are great options for business owners who don’t qualify for conventional business loans. Business owners with scores in the 500s still can get MCA financing if they have sufficient revenue.
To increase your chances of approval, maintain a score between 500 and 600. With business loans, many lenders require a minimum score of 620. In some cases, lenders prefer scores in the 700s.
That said, lenders will still assess your credit score during the application process. Also, you could pay a higher factor rate if you have a low score.
What is a Factor Rate?
The factor rate functions in the same way as an interest rate. On a scale of 1.2 to 1.5, factor rates amount to additional fees that you’ll pay throughout the loan’s lifetime. High-risk borrowers will get a higher factor rate.
- Example: Let’s say you get a factor rate of 1.4 with a $50,000 advance. To calculate the fees, multiply 1.4 by $50,000 to get $20,000. The $20,000 figure is the fee you’ll pay, including the $50,000 advance. Therefore, you’ll pay a total balance of $70,000.
The lender assesses the factor rate based on a variety of factors, such as your business revenue, credit score, and debt-to-income ratio (DTI).
No Collateral Requirements
Standard business loans come with collateral requirements. This means you must pledge personal assets to qualify for the loan. If you default on the advance, the lender can seize all pledged assets. Collateral can be in the form of:
Overall, anything that’s equal to or greater than the loan amount can be used as collateral. With MCAs, however, you don’t have to pledge any collateral. MCA lenders only care about one thing: future sales. In essence, your future sales will function as your collateral.
Since business income is the primary factor that determines qualification, you need a strong revenue base. For instance, some MCA lenders may require that the borrower make at least $10,000 in monthly sales.
In other cases, lenders may require at least $5,000 in credit card sales. As long as you have a stable revenue stream, you stand a solid chance of qualification.
In many cases, businesses can receive funding in as little as 24 hours. On the flip side, getting approved for an SBA loan can take weeks. When it comes to receiving the funds, expect to wait between 30 to 60 days. Overall, MCA offers some of the fastest approval and processing times.
Is a Merchant Cash Advance Right for My Business?
Choose a merchant cash advance if you need quick cash with minimal restrictions. MCA lenders offer advances to applicants with low credit scores. You also don’t need to pledge collateral.
As long as you have a strong revenue stream, you’ll stand a better chance of qualification. Best of all, lenders won’t dictate how you can use the funds.
Do you need a cash advance for your small business? Click here to learn more about MCAs.