Your Guide to Merchant Cash Advance
What is Merchant Cash Advance?
A merchant cash advance is an advance payment based upon the credit or debit card sales of a business. Click the button below to learn more about it.
Advantages of Merchant Cash Advance
There are several advantages of merchant cash advance that have made them popular among small and retail businesses.
Merchant Cash Advance Application Process
Most merchant cash financing companies operate online. It is advisable that at least three or four companies be consulted before choosing a company.
What is Merchant Cash Advance?
Businesses often require emergency money for a lot of reasons. It may be required to meet a short-term capital requirement, or to handle any unforeseen crisis.
The most common way of getting quick access to cash is by taking a loan. But traditional loans are time-consuming and have tight credit requirements, making them unsuitable for emergency situations. In such cases, a merchant cash advance is a more suitable option.
A merchant cash advance isn’t exactly a loan, rather an advance payment based upon the credit or debit card sales of a business. Merchant cash advance companies provide cash to businesses in exchange of a percentage of the daily credit or debit card income. Merchant cash advance is an alternative to traditional loans when quick cash is required by a business.
Merchant cash financing has only been around for a few years, and several small businesses still do not know much about it. While not quite a loan, merchant cash advances do have their own advantages and drawbacks. In this guide, we look at how merchant cash advances work, who is eligible, and the pros and cons of this system.
How does merchant cash advance work?
Merchant cash advances have primarily been for retail businesses like supermarkets and restaurants whose revenue mainly comes from credit and debit card sales. This service is also available now to other businesses whose primary source of revenue isn’t debit or credit card sales. When a business applies for a merchant cash advance, they are given an upfront amount in cash in exchange for a percentage of future sales.
Types of Repayments
The first type of repayment is by paying the merchant cash advance provider with a fixed percentage of future credit or debit card sales.
The second is not by paying a fixed portion of sales, but by making daily or weekly repayments from the merchant account.
Weekly or daily repayments is the more preferred option since, unlike the fixed repayment attached to credit or debit card sales, this is not affected by sales going up or down. This helps the business repay the money sooner.
Merchant cash advances can be used to fund any type of sales. Credit and debit card sales have become the most preferred type because these are often the primary sources of revenue for most retail businesses, and lenders think repayment is easier. However, businesses can also use merchant cash advances to fund future cash or commercial sales.
Advantages of Merchant Cash Advance
There are several advantages of merchant cash advances that have made them popular among small and retail businesses. Let’s take a look at some of the benefits:
Minimal credit risk
One of the biggest benefits of merchant cash advances, as compared to a traditional loan, is the minimal credit risk. Loans require the business owner to complete an extensive credit check, and in many cases the business may not qualify for the loan.
Merchant cash advances are simpler. There is no credit check required, because the advance is based on future credit or debit card sales (i.e.: sales that haven’t taken place yet). In fact, the merchant cash advance isn’t even a loan in that sense; it is an amount of money lent to a business in exchange for a percentage of the business’s expected credit or debit card sales. In this case, the current credit rating does not matter and is not required.
No collateral required
For merchant cash advance funding, there is no collateral required. In a traditional loan, businesses often lose their assets when they default on bank loans and the bank claims the assets they mortgaged against the loan.
This results in the business going bust because there is nothing left to run the business with. Merchant cash financing does not require any asset as collateral to secure the advance. Merchant cash advance companies are only interested in the past and future credit card and debit sales of the business. If the past record shows that the company is capable of repaying the advance, the funding is granted. It does not need property or other valuable assets to be put up as collateral.
Banks, credit unions, and other financial institutions not only have a complicated and long-drawn loan application process, but are also tight-fisted about approving loans. Only businesses that have been around for a long while and have exceptional credit scores are usually the ones granted loans.
Small businesses with not a high credit score, or those that haven’t been around for too long, often find it hard to get approved for a loan, even if they need the money. On the other hand, merchant cash advances are based on future credit or debit card sales and do not require a credit check. This means that merchant cash advances have a far higher approval rate than loans. Applicants usually know they will be approved when applying for a merchant cash advance.
Unlike traditional loans, which require the money to be used in a certain way, merchant cash advances have few restrictions. The advance can be used in whichever way the business owner deems fit. Once the advance is granted, the money belongs to the business owner who is not required to be accountable to the merchant cash financing company.
The money can be used for a lot of business purposes, some of which include advertising, expanding the business or the customer base, paying off company bills or other dues, buying equipment or machinery for the business, or investing in stocks, bonds, or real estate.
Disadvantages of Merchant Cash Advance
Merchant cash advances are most popular because they are quick and have a high approval rate, and there’s no interest on the amount. However, not everything is great with this type of financing. The following are some of the disadvantages of a merchant cash advance:
Even though merchant cash financing isn’t a loan, and there is no interest, the lender is free to charge anything from 40 percent to 400 percent on the amount borrowed, depending upon the revenue your business earns.
This makes your annual percentage rate far higher than that of traditional loans. Small business loans have APRs ranging from 7 percent to 110 percent, and business credit cards have APRs from 12.9 percent to 29.9 percent. The APR is also dependent on the merchant cash advance company, the amount of the advance, extra fees, duration of repayment, and the strength of the credit or debit card sales.
APR rises with sales
Since merchant cash advances are based on future credit or debit card sales of a business, the APR rises when the sales are high. When revenue is poor, the duration of repayment is longer and less expensive. If revenue is high and repayments are made quickly, the APR is also higher. For instance, if you borrow $100,000 at a rate of 1.5, your total repayment amount would be $150,000. You have the option of repaying it in six or twelve months. The former is less expensive than the latter.
It isn’t regulated
The merchant cash advance industry is not regulated because they are recognized as commercial transactions and not loans. This sometimes makes merchant cash advances risky to get into. There is no fixed factor rate or fees, and each lender is free to charge what they choose.
Every merchant cash financing involves a contract, and the borrower must make sure they understand all the terms and conditions written in it. It is always better to look for a golden merchant cash advance company that has been in business for a long time and has established credibility. In order to safeguard your interests, never work with a company that is new and doesn’t have favorable reviews.
Merchant cash advances are quick and easy, but businesses run the risk of getting into a debt cycle. If the business does not qualify for other types of loans or financing options, cash advances might be the only solution for them to access quick cash. When they keep taking one cash advance after another, the high fees and interests can put them in debt cycle, because the repayments can surpass the revenue in the long run. Most merchant cash advances require daily repayments and this could be expensive for a small business.
Since this type of financing isn’t yet widely recognized, many of the terms might be unfamiliar to borrowers. The repayment structure is different from other types of loans, there is no fixed APR, and the contract can be confusing. First time borrowers have the risk of being cheated.
How is the cost of a merchant cash advance calculated?
Perhaps the most confusing aspect of a merchant cash advance is the calculation of costs. Traditional bank loans follow a standard structure, but merchant cash financing has no set structure because it is unsecured and unregulated. Since merchant cash advances aren’t governed by any rules, borrowers must know how the system works to avoid being cheated. The most important aspect to understand is the cost of a merchant cash advance.
Calculation of cost will depend upon the type of repayment chosen: fixed percent of future sales or daily repayments. Let’s take a look at each of them.
Percentage of future credit or debit card sales
When a business opts for this type of repayment, the merchant cash advance company automatically deducts a slice of your credit and debit card sales until advance amount has been fully repaid. For instance, you are a business owner who takes a merchant cash advance of $50,000 to purchase new equipment for your business. If the lender has set a factor rate of 1.5 on the contract, you owe $75,000.
The period of repayment usually varies from three to 12 months, depending upon your credit cards sales. The higher your credit or debit card sales, the quicker you will be able to repay the amount.
In this case, if the lender takes away 11 percent of your monthly credit or debit card sales until the advance is repaid in full, and your monthly revenue from credit or debit card sales is around $120,000, then you would have to make daily payments of $440 for 30 days a month. If your revenue remained the same, you’d be able to pay off the advance in 171 days, but if your revenue dropped, at this pace, you’d pay off the advance by the seventh month. But if your revenue dropped to $100,000 a month, you would have to keep making daily payments of $366.67 for 205 days.
Fixed daily payments
Based on an estimate of your future credit card sales, a fixed daily payment is withdrawn from your account. For instance, example, if a business has $120,000 in monthly revenue (though it would have more if the ACA law went away and taxes were lowered but this is another subject), it would owe $440 per day at 11 percent. Daily or weekly payments don’t rise or fall with the revenue.
Who is eligible for a merchant cash advance?
Compared to traditional bank loans, merchant cash advances have a far higher approval rate because most businesses qualify. If you are less than six months in business, have little to no asset or collateral, or a low credit score, merchant cash advances offer a quick and easy way to solve your financial problems. Merchant cash advance lenders have easy and flexible eligibility requirements, therefore, most retail or small businesses don’t have a problem qualifying for merchant cash financing.
Minimum requirements for merchant cash advance:
A company must have completed at least five months in business to be eligible for merchant cash advance. This is because the lender wants proof that the business will survive at least until the advance is repaid.
Even though businesses with bad credit are also eligible for merchant cash advance, lenders still prefer to know your credit score. A minimum credit score of 400 is required to qualify.
Whether most of your sales come from cards or cash, the annual revenue of the business decides if you are approved for the advance. At least $75,000 in annual revenue is required to qualify for merchant cash advance.
Documents required for an application:
Voided Business Check
Business Tax Returns
Credit Card Processing Statements
How to apply
Most merchant cash financing companies operate online. It is advisable that at least three or four companies be consulted before choosing any. The process is usually completed online, and takes anywhere between an hour to a few days depending upon the lender. Once the advance is approved, the business receives the money in their account in a couple of days. This ease of application and approval often makes merchant cash advance a more popular option than other small business loans.
1. Apply online
The online application form for a merchant cash advance is usually one to two pages, and requires documents like your driver’s license, social security number, business tax ID, and other information about you and your business, depending on the lender.
2. Provide required business documents
You will need to furnish proof of revenue in the form of credit card data, bank statements, or payments processing data of the last several months.
Depending upon the lender and your qualifications, you could be approved for the advance in as little as 24 hours or a couple of days.
4. Credit card processing
Merchant cash advances usually require the business to switch to a new credit card processor. Even though this is inconvenient, it is often a vital part of the approval process for most merchant cash advance lenders.
5. Finalize the deal
Before finalizing the deal, make sure you understand the details. Read the contract carefully and ask questions if you don’t understand something.
6. Receive the advance
The advance amount is deposited into the business’ bank account in a day or two, and the repayment process begins automatically.
Alternatives to Merchant Cash Advance
A merchant cash advance program is an expensive financing option that could bite into your business’ cash flow. If a regular loan isn’t what you want for your small business, there are other alternatives to a merchant cash advance that you could consider. Some of them are:
This is a traditional monetary loan for a specific amount that is repaid in regular installments over fixed period. Term loan period usually varies between one and ten years, but sometimes may be as long as 30 years. The differentiating factor in a term loan is the unfixed rate of interest rate that keeps adding to the original amount to be repaid. A minimum credit score of 600 or above is required for qualifying for a term loan.
This is another popular alternative to merchant cash advances. In invoice financing, a loan is granted to the business based on the amount of money due from customers. This is a short-term loan used to meet immediate financial requirements of a business. The cash can be used to buy equipment for the business, pay employees, etc. instead of the applicant’s credit score, the credit rating of the invoiced business is considered.
Business line of credit
Also called LOC, line of credit is another short-term financing option where the loan amount can be used for buying machinery or equipment, company payroll, or investing in a new project. LOC involves a bank or financial institution lending a specific amount of money to a business and it can be repaid within a certain period. Bad credit business with at least 6 months in business and $50,000 in annual revenue are also eligible for business LOC.
Short term loan
Like a traditional bank loan, short term loans are for a specific period, but the repayment, with interest, is done daily or weekly over three to 18 months. Loan amounts are usually smaller, with short repayment periods, and the interest rates are higher than regular loans. But short term loans are easily to qualify for, have limited paperwork, and credit score is usually not required.
Personal loan for business
This type of loan is made to an individual based on his or her financial background, and the person can then use the money for business purposes. The biggest advantage of this type of loan is the affordability. If an individual has a new business with not much credit score, then a personal loan for business is the cheapest and quickest financing solution. Personal credit rating is required to qualify, and loan amount is limited to $40,000.
Depending on the annual revenue and the credit score of small businesses, there are a lot of financing options available. Merchant cash advances work best for one-time capital funding for companies with a low credit score or limited business history. Taking advantage of merchant cash financing more than once could prove to be detrimental to the cash flow of the business and consume the annual revenue of the company.
Merchant cash advance for small business is quick and easy financing solution to meet short-term capital requirements. Banks and other financial institutions are never too eager to grant loans to small businesses, even when the capital is urgently required.
As a result, retail and small businesses look to other options. Merchant cash advances have a high approval rate, fast funding easy payback, credit or debit card revenue based repayments, and no credit or collateral at risk. Even when a business struggles with a history of bad credit, or has been labeled as high-risk, merchant cash advance would still work. The easy and no-hassle process and approval of merchant cash advance financing appeal to a wide range of businesses.
Choose the best merchant cash advance brokers, and fund short-term capital for your small business in a few hours.