Some financial products, like merchant cash advances, came onto the market after the 2008 recession. These cash advances are easy to qualify for and you can often get money wired into your account in days. It’s the working capital owners often couldn’t get from banks or SBA loans, so they turned to MCAs and the Alternative Lending Market to keep their doors open.
MCAs are like the red-headed stepchild of small business loans. They’ve been popular for over a decade, but the misconceptions persist. Part of it is also due to unscrupulous lenders and brokers, who’ve given the whole product a black eye. It’s not wrong to be a little nervous. But it is wrong to judge all lenders and brokers by the worst of the industry.
Still, MCAs are more legitimate and regulated than you might think. For a lot of merchants, merchant cash advances are just what the doctor ordered.
Take a closer look, and most of the things people think they know about MCAs are myths. Sky-high fees? No regulation? Predatory by nature? Let’s debunk seven of the myths.
A merchant cash advance is not a loan. It’s a purchase of future receivables, and nothing more. You sell a portion of your business’s future card sales to an MCA lender. You get the cash as a lump sum right away, and you repay the money through a percentage of your daily or weekly sales until the advance, plus fees, is paid in full. It’s like you pay a percentage tax on your sales until the debt’s covered.
Unlike with a conventional loan, where they set the loan amount based on your credit history and other factors, the size of an MCA is based on projected future sales. With most lenders, you don’t even need collateral.
Most merchants assume that MCAs are a really expensive way to finance. But the sky-high rates you hear about aren’t how most MCAs work.
MCAs use a factor rate instead of an interest rate. The higher the rate, the more you pay. But factor rates don’t compound, and they don’t mean double or triple the size of the advance like some borrowers assume. If your advance is $1,000 at a rate of 1.3, you pay $1,300. Easy. The rate is based on risk. Lenders are trying to earn a profit, so they adjust the rate by the risk. The stronger the history, the lower the rate.
With merchant cash advances, the price might be higher than other forms of financing. That’s the cost of being flexible and fast, but it’s not an automatic with every advance. But there’s no one answer for everyone. It depends on risk, and how fast you repay.
It’s just not true that an MCA is the most expensive way to finance. Be smart. Do the math.
Stacking Advances
Some shady lenders will give you a second and third and fourth advance. They’re stacking advances. For shop owners having trouble paying an MCA, it can feel like their only option is to take out a new advance and use it to cover the first. It’s easy for predatory lenders to pull a shop owner into a cycle of debts and renewals.
A reputable MCA lender wants you to repay, and to repay as quickly as possible, so they have no reason to stack you with so much debt that you go under. Funding a doomed shop is bad business. It means they lose money on the deal.
It’s not the product itself that’s predatory. It’s unscrupulous lenders who offer deals that are predatory. A good lender won’t ever get you stacked up and drowning in fees and penalties.
MCAs Are Regulated by the States
The major myth is that MCAs are some kind of shadow financial monster. That’s just not true. MCAs are regulated, and regulated at the state level. Every state has its own rules, and they’re not always as strict as federal rules for banks. That lets funders offer you flexible, tailored terms and conditions.
More and more legislation is being drawn up now, aimed at stopping funders from driving businesses into the ground. It’s not the Wild West, even if it still feels like it is.
There’s a very simple way to avoid predatory lending: be discerning. Look for a funder that belongs to an industry association. Check their Better Business Bureau reviews. Most importantly, ask lots of questions, and be ready to walk away from an unclear answer.
Percentage of Your Card Receipts
Repayment terms for an MCA don’t work like a conventional bank loan. You don’t have a set amount every month you need to pay. It’s a percentage of your card receipts. If you take an advance, but you have a really slow January and February? Your payments drop. A big month? You’ll pay it off faster. They work with your business, not just in spite of it.
If you’re more comfortable with the idea of a fixed payment every month, then a conventional loan may work better for you. But if the idea of small, manageable payments out of your daily cash flow appeals to you, you may be happy with an MCA. There’s no right answer for everyone. There’s just the right answer for you.
The payments are a percentage of your receipts. A big sales day? Then a bigger payment. A slow day? A smaller payment.
It’s not completely wrong. MCAs are easier to qualify for on weaker credit. But businesses with good credit can get big advantages from MCAs, too.
But the myth goes that if you can qualify for a traditional loan, you don’t need an MCA. The truth is different. Plenty of business owners with perfect credit and a fat stack of collateral get rejected by the banks. But even a lot of owners who do qualify like the speed and flexibility of MCAs. Weigh your options first. The SBA isn’t always the best answer.
Another myth? That a funder will advance money to a shop that’s failing? Well, that’s wrong, too. If you’re going under, lenders probably don’t want to be associated with that kind of risk. That’s basic good business.
That’s not to say that cash flow gaps or surprise expenses aren’t worth getting a MCA for. It can definitely be worth a look if you’re in that spot. A cash advance does best when it’s a tool for growth. Like marketing, or buying materials or inventory at wholesale for a big project. MCAs are best for things that bring new revenue into your business, so you can repay faster.
Myths are myths because they’re simple, and people know enough to believe them. That’s one reason MCAs get a bad rep. But the myths don’t hold up. MCAs are not, in and of themselves, expensive or predatory. They’re just a simple, flexible form of financing that work in days instead of weeks or months. Funding as fast as one business day. MCAs can work great, even for businesses that aren’t in crisis or don’t have the worst credit. They may not be for everyone. But they don’t have to be this dark thing in the night, either.
About Delancey Street
Delancey Street is a premier, and award winning, business debt settlement company that helps business owners nationwide. Our goal is simple: help you escape debt in a safe and legal manner. Based out of New York, we can help in 49 of 50 states. We tell you how it is; because your business and future is on the line.
