Merchant cash advances explained
A merchant cash advance can tide you over if you regularly process credit card payments and need some extra cash.
What is a merchant cash advance?
A merchant cash advance, sometimes also known as a business cash advance, lets you borrow against your future credit card transaction revenue.
Imagine this: you need some extra cash today, but you don’t have business assets that you can pledge as collateral for a standard business loan. Instead, you can ask for a cash advance from a lender now and repay it through a fixed percentage of your daily, weekly or monthly credit card payment receipts. If business grows, you will repay the advance more quickly. If things are slow, you get more time. It’s a fast and flexible solution for many small businesses in areas like food and beverage, retail and leisure.
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How do they work?
Any business that receives payment via a card terminal may qualify for a merchant cash advance. Because the lender works with the card terminal provider that processes your transactions, they can easily see the volume of card payments your business receives. The lender uses this information to calculate the sum they will lend and a plan to pay back the loan.
Because the loan and repayment plan are based on the volume and value of your transactions, merchant cash advances adapt to the way your business operates. The percentage of customer receipts you pay to the lender does not change, but the sum you repay daily, weekly, or monthly, does. It will fluctuate to match your card payment income. This flexibility can work particularly well for businesses with variable or seasonal income.
Merchant cash advances make repayment simple. The repayments are taken “at source,” which means they are sent directly to the lender by your card terminal provider.
How much you can borrow will depend on factors such as how much credit card business you process and the total amount the lender is confident you can comfortably afford.
Is a merchant cash advance a business loan?
Technically, all types of borrowing for a small business or startup can be considered a business loan, but merchant cash advances differ from standard business loans in several ways.
For one thing, a merchant cash advance is unsecured. That means it does not require collateral such as inventory, equipment or real estate to back the loan. The money is lent to your business and you pay it back as a percentage of your card payment income. The volume of your card payments and the amount of money your business makes are what determine whether you qualify and how much you can borrow.
Another difference is in how merchant cash advances can adapt to your business. As you grow, you repay faster. During lulls, you repay slower. The time it takes to clear the loan is determined by the performance of your business. However, like other loans, a merchant cash advance does have a final date for full repayment of the loan. This can be anywhere from a few months to a few years in the future. Finally, standard business loans can come with hefty late charges or penalties for early repayment. A merchant cash advance does not. Because repayments are automatically deducted from your daily, weekly or monthly card transactions, it is not possible to be late, so there can be no late charges. If your small business or startup grows rapidly, you’ll pay the loan back sooner without worrying about penalties.
What can I use a merchant cash advance for?
You can use a merchant cash advance for just about any legitimate business purpose, including:
- Buying inventory
- Renovating or expanding your premises
- Covering a cashflow shortage
- Paying taxes or vendors
- Advertising and marketing
- Hiring and training
- Purchasing equipment
In short, if your small business or startup needs money to grow, a merchant cash advance could work for you.
Merchant cash advance examples
A restaurant had to make some unplanned renovations in order to comply with new COVID-19 pandemic regulations. A merchant cash advance was the perfect way to get some extra cash on short notice, and the renovations will help him accelerate his sales and speed up his repayments.
A hotel wanted to take advantage of an upcoming holiday period to attract more customers. They used a merchant cash advance to fund an online advertising campaign, which should help them book more rooms and repay the advance ahead of schedule.
A spa is interested in acquiring new equipment that will allow them to offer additional services and generate more revenue per customer. A merchant cash advance was a flexible way to get the money they need right now and pay it back our of future sales.
What are the benefits?
There are many potential benefits, including:
- Merchant cash advances are flexible and scalable. They adapt to the growth and operating pattern of your business. You pay back what your business can afford based on your customer card income. Pay more when business is going well, pay less if things slow down.
- Because you can often obtain a merchant cash advance without collateral or a deep review of your financial statements, they are a good option for businesses with limited credit history or a lack of assets that they can pledge as security for a loan.
- Unlike many other forms of business funding, a merchant cash advance can often be secured quickly. In some cases, a loan offer can be made within 24 hours of application.
- Repayments are taken at source. There’s no need to waste time juggling your cashflow to meet an upcoming payment. You concentrate on your business and you let the loan take care of itself.
- There are no hidden fees. The cost of the loan, based on the factor rate, is set at the start. You know what you pay from the moment the loan is made.
Interested in a merchant cash advance? You can get started in minutes when you join Asgard.
What are the downsides?
Here are a few potential downsides to a merchant cash advance that you might want to consider:
- • The cost may be higher than a standard business loan. The fee, based on the factor rate, is set at the start of the loan. Even if your business grows stronger and more creditworthy over time, it will not reduce the fee you pay.
- • Because a merchant cash advance is based on card terminal receipts, you will not qualify if you receive payment by other means, such as cash, cheque, or bank transfers.
- • With most lenders, the maximum loan amount is 1-2 times the value of your monthly card transactions. If you need to borrow a significantly larger amount, a merchant cash advance is probably not the choice for you.
Merchant cash advance requirements
Interest rates vary according to the type of working capital loan you choose and if it is secured or unsecured. (Secured loans usually come with lower interest rates and fees). Current rates range from 9.9% representative APR for business credit cards, anywhere from 1.8% – 45% with term loans, and as low as 0.6% if you opt for invoice financing.
What are typical interest rates on working capital loans?
The number one requirement for a merchant cash advance is an established history of processing a steady flow of credit card transactions. When you apply, you will likely be asked to provide several months of card transaction history as well as bank statements.
Another requirement is a completed application form, but this is usually relatively short and simple, and approval times are often quick – sometimes as short as 24 hours.
In some cases, you may be required to switch card terminal providers. Although this step is inconvenient, it can be a condition of approval from some lenders. It is definitely not always required.
What are the interest rates?
A merchant cash advance does not have an interest rate in the usual sense. Instead, you pay a fee of a certain number of cents per dollar borrowed. This is usually expressed as a “factor rate.” For example, a fee of 20 cents per dollar is expressed as a factor rate of 1.20.
To see how much you will have to repay, multiply the amount you borrow by the factor rate. For example, if you were to borrow $5,000 at a factor rate of 1.20, you would be required to repay $6,000. This is calculated as $5,000 x 1.20 = $6,000.
The factor rate of your merchant cash advance will generally be set somewhere between 1.07 and 1.35, depending on the size and stability of your business, the volume of your transactions, the value of your transactions, and other factors that may be unique to each lender.
What is a ‘factor rate’?
The factor rate is the fee charged by the merchant cash advance provider. Unlike an interest charge, that may be variable, the factor rate is set at a fixed number of pennies per dollar borrowed. For example, a fee of 20 cents per dollar is expressed as a factor rate of 1.20.
The factor rate is set at the time the loan is made and will not change over time. This is different than some loans or lines of credit, where the interest rate can fluctuate over time.
MCA repayment structures
A merchant cash advance repayments are set as a percentage of each card transaction – for example 10%. Increased card payments will result in a larger repayment, which will pay the loan off faster. Less card payments will generate a smaller repayment and extend the time it takes to pay down the debt.
Can I get one with bad credit?
In many cases, yes. Because merchant cash advances are granted based on business performance and card turnover, bad personal credit is often not a problem. If you’ve been turned down for other types of funding, you may still qualify for a merchant cash advance.
Can I get one without a credit check?
Possibly, since lenders place more value on the credit card transactions in your business than on your personal credit. However, since a merchant cash advance is an unsecured loan, many lenders will still want to do a “soft” review of your credit rating. If there are serious concerns about your ability to make payments, the lender may request a full credit check.
Can I get one without bank statements?
Probably not. Although lenders will look at your card payments volume and history first, you must expect to show some financial records. This could mean bank statements and/or documentation related to your cash flow, balance sheet or tax returns.
Although each lender is different, they are all seeking to identify risk. The more information they have about your business, the more accurate their offer will be. If your company is a startup, or if you don’t have adequate business financial records, your personal tax returns may help the lender make their decision.
What happens if I default?
When a borrower fails to make payment on a loan, the lender has options to retrieve their money such as a civil law suit. This could lead to a loss of business property, a bad credit rating, or even bankruptcy. A merchant cash advance is no different. And, if you have provided a personal guarantee, the lender may take possession of the asset you have pledged assets to satisfy the loan.
What are the alternatives?
One of the main alternatives to a merchant cash advance is a secured or unsecured business loan. With a secured business loan, you pledge an asset such as a vehicle, equipment or real estate as collateral for the loan. This gives the lender greater security, which can be beneficial in terms of a lower interest rate and longer period of time to repay the loan. With an unsecured business loan, you are not required to provide collateral, but may by charged a higher rate of interest and have less time to repay the loan.
How do I get a merchant cash advance?
As long as you have a reasonable volume of card payments, enough profitability to repay the loan, and bank statements or other financial documentation to provide supporting evidence, you may be able to apply for a merchant cash advance and receive funding in as little as a day or two.