If You Closed Your Business Because of the COVID-19 Emergency
With stay-at-home orders in place across the country, states have scrambled to enforce closures of businesses deemed non-essential, affecting storefronts ranging from retail to restaurants to gyms and many more. As commerce has largely come to a standstill, the pandemic is threatening the financial well-being of business lenders - especially those of the merchant cash advance (MCA) kind - for whom the public health response to the pandemic represents an existential threat. If your business has been shuttered, can the merchant cash advance company continue deducting payments on a daily basis? It depends on your contract and the facts. Many MCA agreements tie payments to receipts through a reconciliation provision, and independent counsel can review how yours applies.
While merchant cash advance agreements likely do not have anything specific about pandemics or emergencies, MCAs are generally structured so the advance is paid from the receipts that the business earns. Some courts have looked at whether a funder honored that structure when deciding if an agreement is really a loan. A business forced closed as “non-essential” may have few or no receipts.
How a funder handles reconciliation during a closure can matter a great deal. Some contracts require you to wait 30 days or follow set steps before reconciliation, so read yours and talk to your funder before missing a payment. Missed payments can still be treated as a default on the agreement, which can lead to fees, collection activity, and legal action.
Engaging in improper servicing is a particularly dangerous move at this moment for MCA funders. Just recently, the Federal Trade Commission published a Staff Perspective paper detailing a number of issues within the MCA industry, including servicing failures.
The risk is not hypothetical. There has already been at least one court ruling on the servicing of a MCA during an emergency - funders must heed its lessons now.
Hurricane Matthew
In 2016, Hurricane Matthew was a Category 5 storm that worked its way up Florida’s East Coast, sweeping up Georgia, the Carolinas, and Virginia. Governor Rick Scott declared a statewide emergency on October 5, 2016, and issued evacuation orders including Palm Beach County.
A Palm Beach County merchant had signed a MCA two weeks before the storm. According to the merchant’s owner, before evacuating, he called the phone number on the contract to alert the funder that the business was closed and had no receipts.
Nevertheless, the funder allegedly kept deducting from the account daily, and the business ended up losing its perishable inventory and going out of business for good. When the funder sought to enforce the agreement by confession of judgment, the court held it was a usurious loan, notwithstanding that the contract included a reconciliation provision.
The court reasoned that a funder that truly bore the risk of loss would know that the hurricane and state-declared emergency could disrupt the normal course of collection and, as such, failing to consider whether the business could not pay is characteristic of a loan. In other words, the real issue was that the funder never considered not being repaid; a true receivables purchaser understands that if the business cannot earn the receivables, there may be no collection.
Because it failed to account for unforeseen circumstances, the agreement was deemed a loan and subject to usury caps and, in some states, licensing requirements. The very thing on which the funder relied to deem the agreement an MCA, a non-loan, became its downfall.
Reconciliation for Merchants with No Revenue
These same issues arise from the current crisis around COVID-19. Many MCA agreements include reconciliation terms that can adjust ACH debits when revenue drops. How that works depends on the contract, and any change requires working it out with the funder. So, what does this mean for you if your doors are closed? Your payment obligations do not change on their own. If sales stopped or dipped, ask your funder about reconciliation before missing a payment.
Additionally, many merchant cash advance contracts do not allow the merchant to secure other loans or financing. Independent counsel can review whether taking government stimulus loans could be treated as a breach of that term. The MCA contract may define revenue broadly, and whether government COVID-19 funds count as part of a merchant’s revenue for reconciliation or payment purposes depends on its terms. Again, merchant cash advance agreements are generally structured as purchases of business receivables. Failing to recognize these points invites inquiry from the regulators, as well as unfair practice lawsuits.
About Delancey Street
Delancey Street is a 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 help business owners in many states. We tell you how it is; because your business and future is on the line.
