Best MCA Consolidation Options for Businesses in Default

When cash advances are laid atop other cash advances, a business or its lender can find itself in a tight corner. The COVID-19 pandemic shook things up and down, but there are routes back up for a business owner. The providers who at one time held all the cards now find themselves with plenty of reason to negotiate: debit cuts, discounted payoffs and sub-debt to finance those payoffs. Here’s how to take advantage.

MCAs are predatory. Small and mid-sized businesses increasingly use them for short term cashflow and often default on the payback. A wrong lead to a financing rabbit hole is an appropriate metaphor. Also called stacking, one leads to another. Stacking refers to the situation where you load your business with an additional cash advance from multiple cash advance provider companies. Many businesses do this, especially when they are up against the wall financially. Taking on a second or third cash advance on top of other cash advances can catch up to businesses and land them in trouble. Still, MCA debt can often be reduced or even eliminated.

These advances are the last resort for small and mid-size businesses that need funding and can’t find it anywhere else. They are the lowest tier of alternative financing. Providers purchase a share of future sales. The provider receives payment every day or week, automatically drawn from the business’ account. The product is framed as a sale of receivables rather than a loan as in most states its annualized rate would land far north of criminal usury limits risking a criminal charge. Annual rates are often well above 100%.

New York Law

Most MCA contracts specify New York law, jurisdiction and venue. New York courts have traditionally been friendly to lenders, including providers. Most New York decisions have held the MCAs to be sales of receivables, not loans, with the obvious disregarded. Therefore, usury is not a problem to providers. For a merchant outside New York, that meant any fight came down in the provider’s house, on their ground, under law that deemed the deal a sale.

For many years, courts have immediately dismissed arguments that an MCA is a loan subject to usury provisions, but courts have now started to hear those arguments and for the first time, the law likely will say so, that MCAs are indeed usurious loans. Providers know that the ground under their feet is getting very unstable.

In August of 2019, New York passed legislation that changed the rights of MCA providers to file a confession of judgment against a merchant. A COJ is the right of the lender to enter a judgment against a defaulting borrower without having to even give notice or file a complaint. Merchants had consented to this when signing the contract. Before, COJs could be filed in New York against merchants all across the country. Often signed without much thought, the COJ was far from meaningless: A merchant’s default in another state could turn into a New York judgment overnight. Many never knew there was a judgment entered against them or that collections had even begun.

Now a confession of judgment can be filed against a business owner only at a county clerk’s office in New York. They must be entered against merchants who reside or are headquartered in New York. For others, a complaint, summons and lawsuit must be filed to recover and litigate a default. Merchants now have the right to defend, which is the most significant change in the law. Judgments must be enforced in the merchant’s home state, raising cost and time. What exactly does the right to defend mean? Well, a merchant from out of state gets served, can answer, and argue that the MCA actually is a loan.

You Can Have Leverage

Even deep down the rabbit hole of MCA debt, you can have leverage. Typically, a business carrying MCA debt will have a senior lender or factor behind it with a first-position perfected security interest in all assets and in many cases, the personal guaranty of the principal. Most MCA providers hold at best a junior lien. Junior lienholders get paid in liquidation only to the extent there is value above the senior claim, which often is not so. What this means in reality is that when the business is liquidated, the senior lender or factor is paid first, and typically, after that there is little or nothing left for MCA providers. And they know it.

Because of their junior lien status and the change in the COJ law, which can put them in a lawsuit in your home state, MCA providers are more willing than ever to negotiate short- or long-term relief on an MCA payment, especially during the pandemic.

Short-term relief can mean a cut of 50% to 75% of daily or weekly debits for 30 to 60 days or longer. Long-term relief can mean a payback of the remaining balance at a discount of 25% to 50% or even more. In the long term, a discounted payoff can eliminate the debt for good. Because the senior lienholder has to sign off on any deal, that provides more leverage. Providers are typically out of the money, so they will often take some over none.

The Sub-debt Funds a Lump Sum Payoff

While a discount on the back end is a deal, the money still has to be paid. Many businesses who default on MCAs just don’t have the funds to settle them. Sub-debt from the mezzanine lending market can fund the payoff. It pays all the provider’s discounted settlements at once. And then you pay the sub-debt lender back over nine to 15 months. This lowers the cost of capital and lengthens the payback period. The senior lender’s credit risk decreases, the sub-debt lender gets a good deal, and the owner keeps the business. It’s a win for everybody.

The wind of the law is blowing toward the merchants. Go with it. If you have a senior lender or factor, work with it. That lowers your risk and if you are too far down the rabbit hole, another MCA is just a wrong direction. Fight back now. Don’t wait.