Owning your own business can be a tricky thing. It takes a special kind of business owner to be able to make sound financial and administrative decisions. Even if you have made the best decisions for your business, you may find yourself in need of funds quickly. There could be a wide range of reasons why you may need funds. Your reasons for needing money could dictate how quickly you need to obtain the money. It is helpful if you know all of the options that are available to you before you actually need the money. This article outlines everything you need to know about merchant cash advance (MCA). In this way, you can inform yourself before you have to make a decision.
What is a Merchant Cash Advance?
While a merchant cash advance can give you money quickly, it is not truly a loan. It is a cash advance based upon the credit card sales of your business. As a small business, you could apply for a merchant cash advance and have money in your account fast. There are specific providers of merchant cash advances. They evaluate risk and credit in a different way than a typical banker. In this case, the provider is not called a lender and they look at your daily receipts from your credit card sales to figure out how much you are able to pay back. You are essentially selling a percentage of your credit card sales in the future to get money today.
You make an agreement with the provider that addresses the payback amount, the amount that is advanced, and all the terms of the agreements. Once you sign the agreement, they put the money into your bank account. After that, each day a certain percentage of your daily credit card sales is withheld to pay back the agreement. This percentage is called a holdback and happens every day until the amount is repaid. The higher the amount of money that you earn in credit card sales means the higher the amount of money you can borrow and the faster you can repay the money.
The Benefits to This Type of Cash Advance
There are a wide variety of benefits to a merchant cash advance when you are looking for how to finance a business. Some of the benefits that you will get from taking advantage of a merchant cash advance include your ability to have fast access to the money you need when you need it. The approval process for this type of lending is easy and quick. You do not have to have any type of collateral to obtain approval for a merchant cash advance.
One of the great aspects of this type of lending is that your credit does not make a huge impact and even the worst credit is accepted. You can use this option for a large range of business needs. You can choose to make your repayment schedule on a daily or weekly basis. This can allow you to repay the money much faster. You have direct access to the merchant account which gives you an extra layer of advanced security.
You do not have to make an actual payment to repay this cash advance because it is automatically taken from your credit card receipts. Most providers offer online access. You can apply for this type of lending quickly over the internet.
The Negatives To This Type Of Cash Advance
When you are considering a merchant cash advance, there are also some negative aspects that you should consider. It is important that you have a complete understanding of all the good and bad aspects of a merchant cash advance before you make the decision to move forward with this type of transaction. This type of cash advance usually charges higher fees than what you would typically find with traditional loans. You do not have as much flexibility when looking for a merchant service provider. There are limited options available and as a result, you may not be able to change providers.
You are repaying the cash advance with a daily deduction to your credit card receipts. This means that you are reducing the amount of cash that is coming into the business because it is going towards paying back your cash advance.
How Can I Qualify For A Merchant Cash Advance?
This is a fairly easy job, which you don’t hear often in the financial world. However, there are some minimum requirements for your business to be able to qualify for a merchant cash advance. Fortunately for you, the minimum requirements are fairly easy for most businesses to achieve. While this type of lending is great for a business that has a limited history of existence, your business does have to be operating for at least two years. Some businesses have low credit scores because it is hard for them to keep their finances in order while running a business. A low credit score typically will not prevent you from qualifying for this type of cash advance, however, you do need a credit score of at least 550.
Keep in mind, you are repaying the cash advance with your daily credit card receipts. So this means, you are paying back the money you borrowed with a portion of the money you make each day. Therefore, the more money you make, the more you are able to repay and the more willing the merchant may be to let you borrow money. As a result, you should expect that you must generate an annual revenue of at least $180,000. This type of lending is intended to be a short term financing tool to assist you with purchasing inventory, paying debt, or some other unexpected payment that you need to make.
What Documents Do I Need?
While applying for a merchant cash advance is a simple process, there are some documents that you need to provide to the merchant along with your application. Remember, you pay back a merchant cash advance with your credit card transactions on a daily basis. Since that is the case, the merchant wants to look at your credit card statements to see how much you earn through credit card transactions. They want to make sure you have enough volume to repay the cash advance. Many merchants also want to see bank statements and will put your credit report to see your credit score.
Typically, you can apply for this type of cash advance online and the application is often approved the same day that you apply for the cash advance. You should keep in mind that you pay the price for fast money. Also, you need to provide proof of identity when you apply for a merchant cash advance. You must present a valid picture ID, such as a driver’s license. A merchant may also ask you to provide your business taxes as well as a voided business check.
Some vendors may ask you to provide additional documentation, such as proof of citizenship and any leases that you have on the building in which your business operates. The merchant may ask for other information, too. You want to provide whatever documentation they request as quickly as you can. Failure to provide this information could result in the merchant denying your request. You do not want to be denied simply because you did not respond timely.
How Difficult is it to Repay?
It is not that difficult to repay a merchant cash advance because they automatically deduct the money from your credit card sales. However, there are some repayment details which you should be aware of. They typically use a factor rate and not an interest rate, like more standard loans. The factor rate runs anywhere from 1.14 to 1.48. You then multiply the amount you borrow by this number and that gives you the full amount that you owe. It may seem like a low number when interest rates typically start around 8 percent, but not so fast. When you translate this number to a percent, it ends up being around 15 percent but can go much higher. However, the typical borrower ends up paying 20 to 40 percent more than the amount borrowed.
The merchant understands that when you are wanting a cash advance, you are probably more of a risk. Naturally, they want to make sure they protect themselves from that risk. It usually takes about 8 to 9 months to fully pay off your merchant cash advance. However, you may be able to get a term as short as 4 months and as long as 18 months depending on how much you earn. You should also keep in mind that this limits the amount of cash that you have coming into the business while you are repaying this cash advance.
The amount you pay back daily is called the holdback amount. This is a daily percentage of the credit card sales receipts. This is not the same percentage as your repayment amount, or factor rate. The holdback amount is based on the amount of money you are advanced, the amount of your credit card sales, and the amount of time you take to repay the advance.
I will give you an example to highlight what I said above.
You have an advance of $5,000 and you are paying back $6,500. That means your factor rate is 30 percent. However, your holdback rate is 15 percent until you have paid back the $6,500. The amount of time it takes you to repay the $6,500 depends of your credit card sales. If you have consistent sales of $10,000 per month, that means you are paying $1,500 per month and it would take you a little more than 4 months to repay the money.
Are There Other Types of Business Loans?
As a business, you have some options other than a merchant cash advance available to you. Before making a final decision, you should shop around to business loan companies to find out what you may obtain. Small Business Administration (SBA) loans are a great option for many small businesses and offer a wide range of benefits. The SBA does not give out the loans, however, they work with lenders that will provide the loans to small businesses. They are a federal agency that sets the rules and parameters for the loans by combining with lenders, institutions, and community organizations. They make it easier for many small businesses to obtain loans.
These loans are for long term planning, which is different from merchant cash advances. You may need collateral for this type of loan. However, these loans have fixed and variable rate options. The SBA backs the loan up to 90 percent so the lender feels secure in allowing you to borrow the money. If you default on the loan, the SBA covers up to 90 percent of it. The repayment terms can be for an extended period of time, up to as long as 25 years.
You should be aware that the application can take a considerable amount of time and you may need to provide a large amount of documentation, such as background checks, financial reports, and tax documents.
Can I Get a Personal Loan Instead?
When you are considering a merchant cash advance, it may seem odd to also consider a personal loan, but it is an option that is available to you. While a personal loan is not technically for business purposes, you can use it for anything for which you want to use it. You are taking personal responsibility for it. So if you are willing to do so and spend it for a business need, you can do that. This could be a good option if your business is fairly new and does not have a good amount of credit built up on its own.
Your credit score is a large factor in determining your interest rate. The lower your credit score means your interest rate will be higher. When you apply for a personal loan, your income matters. So if you are not taking a salary from the business and you are not showing any type of income, you may have a difficult time getting a personal loan. It’s important to find a credible lender.
Is a Line Of Credit Loan a Better Idea?
One other option you may want to consider when you are thinking about a merchant cash advance is a line of credit. In this case, a lender extends you a certain amount as a line of credit over a certain period of time and you can use those funds however you wish. Once you reach the end of the time frame, you are no longer able to use the line of credit. You can use as much or as little as you wish of the amount the lender gives you.
You pay interest on the amount you use, not the full amount of the line of credit, unless, of course, you use the full amount. The lender and you agree to the repayment amount before the line of credit is extended to you. When you pay off the amount you have used, you can usually use that amount again until the term is up. Most of the time, you can renew the line of credit for another term.
The interest rate for a line of credit is usually in the mid-range as they tend to be much less risky for lenders. This may be a good way to establish credit for your business, especially if you have a new business or are trying to repair your credit.
A merchant cash advance may be a new term for you. But now that you know a little more about it, you may be considering it. If you are seriously considering this as an option, be sure that you understand how it is going to impact your day to day cash flow coming in from your credit card sales. You may consider it as an option because it does not take from any money you have saved. However, as we already stated multiple times, it does impact that money coming into your business from your credit card sales. If you have that money projected and in your budget, you must consider how that impacts you moving forward.
Julia Peoples is a long-time business manager focused on providing decision making assistance to the public. She works with people at key points of their lives who are making important retirement and financial decisions. She has had many articles published that educate the public on sound financial decision making.
Julia writes for those who are working towards financial freedom or a better understanding of how finances work. She has shared her financial insights with individuals on a one on one basis for years.