Merchant Cash Advance

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What is meant by merchant cash advance?

A merchant cash advance, often known as an MCA, is short-term financing provided to small business owners and their organizations by a specialized lender to meet their financial and commercial needs. Technically speaking, a merchant cash advance is not a loan; rather, it is alternative business finance exempt from the same laws and restrictions as other forms of financing, including term loans, small company loans, and short-term loans from traditional banks.

How does merchant cash advance work?

Calculating the financing cost. An MCA will employ a factor rate to compute the cash advance cost instead of a conventional loan, which relies on an interest rate and time to calculate the cost of funding. A factor rate is expressed as a whole number and a fraction, unlike the interest rate, which is expressed as a percentage. Simply multiply the factor rate by the cash loan amount and any extra costs to get the payback amount.

GetCapitalToday offers loans to small businesses that meet these criteria:

  • Business based in the US with 1 year in running
  • Cash flow that is stable or at least $15,000 per month

*Terms and conditions apply.

merchant cash advance

Is merchant cash advance similar to invoice financing/invoice factoring?

No. While fairly similar, invoice factoring examines future receivables the company previously invoiced consumers for. The basis for invoice financing is a company's recorded current accounts receivables. To calculate the amount of the advance and the repayment terms, a merchant cash advance looks at a company's historical credit card sales. It projects future credit card sales using that data.

What type of businesses shall opt for a merchant cash advance?

An MCA is intended to speed up cash flow for business owners, as was previously mentioned. Additionally, merchant cash advances are designed to support companies that process many credit card transactions. The fact that the company takes credit or debit cards is the first requirement for eligibility for an MCA loan.

An MCA is an expensive form of financing, as was previously mentioned. As a result, using an MCA requires caution and careful preparation. MCAs are appealing to business owners who need quick cash because they are easier to qualify for than conventional loans and do not consider the credit profile of the business owner. The demand for cash must be balanced with how to pay the high cost of this kind of financing.

You can use this financing and determine if it's ideal for your company by comprehending how an MCA will affect future cash flow. In general, seasonal businesses like ski resorts, beach resorts, restaurants, caterers, retail stores, home renovation, lawn and pool care firms, and many more industry types may benefit most from a merchant cash advance. You might need more working capital outside of your busy season. You might need to upgrade equipment, buy products, advertise, and hire workers. You must time your merchant cash advance so that future card sales will be sufficient to repay the MCA repayment terms.

Take advantage of immediate, steep discounts on merchandise or unusual, limited-time chances as additional justifications for taking an MCA. Of course, a merchant cash advance may be the last recourse if there is extreme financial trouble and no other choice.

To repay the advance promptly, you must ensure that your company will see higher or stable future card sales volumes. Your company may not be able to satisfy the repayment obligations, which could necessitate getting another cash advance. This is what is known as a debt trap. A merchant cash advance could have an annual percentage rate as high as 350%.

Regardless of the industry, an MCA could be a quick and easy option to secure finance, but it should only be utilized as a last-resort bridge to keep your business running.

What are the advantages and disadvantages of a merchant cash advance?

Advantages of a merchant cash advance:

  • Since the cash advance is based on real sales, merchant cash advance providers normally won't request a credit report or inquire about the credit bureaus. A personal credit score is not taken into account.
  • Simple application process: Applications are typically submitted online, although you may also need access to your credit card processing merchant account or bank account details (for commercial accounts).
  • Decisions are often made quickly; receiving your monies could take up to a week.
  • No collateral is necessary because most MCAs rely on the money received from credit card payments. Some MCAs, however, can demand a personal guarantee. Before signing, be sure to read the small print.
What are the terms and structure of repayment?

With a conventional bank loan, the loan balance and interest are normally repaid over a predetermined period with fixed monthly payments. In the case of a merchant cash advance, the lender will keep a portion of future credit card or debit card transactions until the full amount borrowed has been paid back. In contrast, with a traditional loan, you will reduce your overall cost if you pay off the principal amount because you are no longer paying interest. Remember that the full amount is due in the case of an MCA, regardless of how quickly it is paid off.

An example of merchant cash advance repayment

In the scenario above, assume you are granted permission to receive a $20,000 cash advance with a factor rate of 1.4 and a $500 fee. After that, you must reimburse $28,500. Typical payback terms can be anywhere between three and twelve months. You will be forced to repay the entire sum owing during this time by contributing a portion of your card sales. Your MCA agreement will specify this.

Consider a 15% credit card/debit card sales percentage. Let's imagine that your company sells $50,000 worth of goods or services using credit or debit cards each month. Your monthly repayment amount at 15% would be $7,500 ($50,000 x 15% = $7,500), which would take about 3.8 months to pay off the cash advance. Since merchant cash advance payback is often made daily or weekly, you must pay $250 daily for 114 days (assuming an average month of 30 days).

How is the Annual Percentage Rate of Merchant Cash Advance calculated?

In the case above, the model's financing expense was $8,500 for 3.8 months. In about 3.8 months, the equivalent interest rate was 42.5%. The APR, in effect, would be around 226%. You can now appreciate the full cost of this kind of finance when seen in those terms.

Although we have emphasized the high cost of an MCA loan numerous times, it is important to remember that because it is intended for borrowers with high levels of risk, it has a high cost. We should also consider the bigger picture. The other extreme is when your company produces a product for $10 and sells it for $50, and you make 500%. Thus paying 226% annually makes financial sense. Anyhow, MCAs should always be the last resort.